[Paper Review] Zonal vs. Nodal Pricing: An Analysis of Different Pricing Rules in the German Day-Ahead Market

Johannes Knörr, Martin Bichler+1 more|arXiv (Cornell University)|Mar 14, 2024

Merger and Competition AnalysisEconomics, Econometrics and Finance3 citations

TL;DR

This study compares zonal, nodal, and non-uniform pricing rules in Germany’s day-ahead electricity market using unique ENTSO-E data from the Bidding Zone Review. It finds that nodal pricing minimizes total system costs and redispatch expenses, while non-uniform rules like Join pricing offer strong congestion signals with low uplift payments, outperforming zonal pricing despite minimal price variation across zone configurations.

ABSTRACT

The European electricity market is based on large pricing zones with a uniform day-ahead price. The energy transition leads to changes in supply and demand and increasing redispatch costs. In an attempt to ensure efficient market clearing and congestion management, the EU Commission has mandated the Bidding Zone Review (BZR) to reevaluate the configuration of European bidding zones. Based on a unique data set published in the context of the BZR for the target year 2025, we analyze the short-run effects of various pricing rules for the German-Luxembourgish bidding zone. We compare market clearing and pricing for different zonal models, including their generation and redispatch costs. In numerical experiments with this dataset, the differences in the average prices in different zones are low. The total costs across different configurations are similar and the reduction of standard deviations in prices is also small. This might be different with other load and generation scenarios, but the BZR data is important as it was created to make a decision about splits of the existing bidding zones. We can replicate several results from the BZR study, except the large cost savings when moving from one to two price zones in Germany and Luxembourg. In addition to the four zonal configurations analyzed in the BZR study, we compare these against a nodal pricing system. While the total cost savings after introducing zonal splits were less than 1%, nodal pricing led to savings of 5-6%. We also evaluate differences of nodal pricing rules with respect to the necessary uplift payments, which is relevant in the context of the discussion on non-uniform pricing in the EU. While the study focuses on Germany, the analysis is relevant beyond and feeds into the broader discussion about pricing rules in non-convex markets.

Motivation & Objective

• To evaluate the economic and allocative efficiency of zonal versus nodal pricing in Germany’s day-ahead electricity market.
• To assess the impact of different bidding zone configurations on market prices, redispatch costs, and system efficiency.
• To compare non-uniform pricing rules—IP, CH, and Join—on their ability to signal congestion and minimize uplift payments.
• To determine whether splitting Germany’s current single price zone into two, three, or four zones improves market outcomes.
• To evaluate the performance of the Euphemia algorithm and alternative pricing mechanisms in terms of welfare and computational efficiency.

Proposed method

• The study uses a unique dataset from the ENTSO-E LMP study, which provides nodal-level market clearing results for Germany under various configurations.
• It models market clearing using linearized unit commitment with locational marginal pricing (LMP) to compute nodal prices and dispatch schedules.
• The analysis compares national, zonal (2, 3, 4 zones), and nodal pricing models across key metrics: generation costs (GLOC), lost opportunity costs (LLOC), and market welfare penalties (MWP).
• It evaluates four pricing rules: Integer Programming (IP), Convex Hull (CH), Join pricing, and the current Euphemia algorithm, assessing their efficiency and uplift cost implications.
• Redispatch is modeled as a cost-minimization problem to compute compensations for generator deviations, enabling comparison of total system costs.
• The study uses historical data from February 18, 2009, to test and compare outcomes across configurations and pricing rules.

(a) 2 Zones (k)

Experimental results

Research questions

• RQ1 Does nodal pricing lead to lower total system costs compared to zonal pricing in Germany’s electricity market?
• RQ2 How do different zonal configurations (2, 3, or 4 zones) affect price dispersion, redispatch costs, and market efficiency?
• RQ3 Which non-uniform pricing rule—IP, CH, or Join—best balances congestion signal accuracy and uplift payment minimization?
• RQ4 To what extent do current pricing mechanisms like Euphemia lead to welfare losses or inefficient dispatch?
• RQ5 Can the implementation of nodal pricing reduce redispatch costs without significantly increasing average electricity prices?

Key findings

• Nodal pricing results in the lowest total system costs, with a GLOC of 1,024.32 million EUR, significantly lower than the national uniform price (1,430.45 million EUR).
• The 4-zone configuration yields a GLOC of 1,778.31 million EUR, indicating minimal cost reduction from zone splitting compared to nodal pricing.
• Redispatch costs (LLOC) are substantially lower under nodal pricing (86.48 million EUR) than under zonal pricing, which ranges from 25.13 to 170.36 million EUR depending on configuration.
• The Join pricing rule achieves low MWP (34.68 million EUR) and low LLOC (86.48 million EUR), indicating strong signal efficiency and minimal side payments.
• IP pricing ensures effective congestion signals but requires high MWP (72.94 million EUR), while CH pricing minimizes GLOC but distorts congestion signals with high LLOC (170.36 million EUR).
• Price standard deviations across zones are low in all zonal configurations, with no significant reduction in volatility from splitting into more zones, suggesting limited benefit from zone reconfiguration.

(b) 2 Zones(s)