Redistribution through cross-border electricity trade: How to achieve pareto improvement for consumers?

The international integration of electricity markets offers numerous benefits but can entail substantial redistribution between consumers and producers, posing political challenges. Several European interconnector projects have recently been canceled because of potential consumer losses, despite being expected to enhance welfare. This article analyzes the distributional effects of interconnector expansion and identifies policy options to achieve Pareto improvements for electricity consumers. We first use an analytical model to analyze trade between two electricity markets and to derive general conditions under which asymmetric sharing of interconnector costs and rents can avoid consumer losses in the exporting market. Second, we employ a numerical model of the European power sector to assess the real-world example of the canceled Hansa PowerBridge interconnector between Germany and Sweden. Under the current electricity market configuration, we find that asymmetric sharing of interconnector costs and rents is likely insufficient to compensate Swedish consumer losses. However, the additional redistribution of increased surplus by Swedish state-owned producers could achieve a Pareto improvement—even under external shocks. Furthermore, with a German bidding zone split, the Hansa PowerBridge is expected to become Pareto-improving without additional transfers. We conclude that the asymmetric sharing of interconnector costs and rents, the redistribution of surplus from state-owned or state-backed producers, and the reconfiguration of bidding zones are effective policy levers to render welfare-enhancing interconnector projects Pareto-improving.