With the launch of Viking Link to Denmark in December, the electricity grid in Great Britain is more interconnected than ever. Nine different interconnectors with a total capacity of 9.2 GW link Britain to six other European markets.
But how do these interconnectors operate, and how do they affect prices?
Interconnectors allow power to flow from cheaper markets to more expensive ones
Interconnectors are high-voltage direct current (HVDC) subsea cables that allow power to flow between different power grids. They range in capacity from 0.5 to 2 GW and allow power to flow bi-directionally. Power flows from markets with a lower price to those with a higher price, with traders profiting from the spread between prices.
By allowing power to flow across price gradients, interconnectors have an equalizing effect on prices in different markets - increasing prices in cheap markets and decreasing them in expensive ones. This is only limited by their capacity. Because of the large total capacity of interconnectors connecting to Great Britain- enough to meet around 30% of peak demand- they can have a significant impact on power prices.
Interconnector flows are determined by explicit capacity auctions
Before Brexit, the power market in Great Britain was coupled to European markets through the Single Day-Ahead Coupling (SDAC). Day-ahead power markets in each location were run simultaneously, and interconnector capacity between the markets was allocated implicitly.
Power exchanges used an algorithm to determine optimal flows. This algorithm accounted for the supply and demand stacks in each market, alongside the available interconnector capacity. As a result, interconnectors exported when day-ahead prices were higher in Europe and imported when prices were higher in Britain, with few exceptions.
Since Brexit, the British market is no longer part of the SDAC and capacity on most interconnectors is explicitly allocated. This means that capacity auctions run that function in a similar way to power market auctions. Traders purchase capacity rights for a certain capacity in auctions with timescales ranging from long-term to intraday.
Once traders secure transmission rights, they then buy and sell power on either side of the interconnector and ‘nominate’ their flows. Nomination informs the interconnector operator of how much of the sold capacity will be utilized.
The Electricity System Operator (ESO) can adjust final interconnector flows in real-time from the positions nominated by traders. To achieve this, the ESO has arrangements with trading parties on interconnectors that function similarly to the Balancing Mechanism, but are operationally separate.
For more information on the structure and timing of wholesale power markets in Great Britain, see our explainer article.
Explicit capacity allocation can lead to underutilization and counterintuitive flows
Day-ahead capacity auctions on explicitly allocated interconnectors close before the day-ahead power markets. This means that traders must use a forecast of the price spread between Britain and Europe when bidding for interconnector capacity.
If this forecast turns out to be incorrect, traders lose their bids on the day-ahead power auctions and won’t nominate flows for their capacity rights. If traders cannot resell these capacity rights, interconnector capacity may be underutilized.
Alternatively, traders may secure contracts to buy and sell power in different markets ahead of time to mitigate this risk. Prices in these markets may differ significantly from the day-ahead price. This can lead to counterintuitive flows, where power flows across interconnectors in the opposite direction to the day-ahead price gradient.
Capacity on interconnectors to Norway and Ireland remains implicitly allocated
Capacity on interconnectors with Norway and Ireland remains implicitly allocated, albeit via different mechanisms. Interconnector capacity between Britain and Ireland is allocated via simultaneous intraday auctions - Intraday 1 and Intraday 2 - run on EPEX in Britain and SEMOpx in Ireland. Interconnector capacity between Norway and Britain is allocated based on the Nord Pool day-ahead auctions in each market.
Interconnectors have an equalizing effect on prices across Europe
Traders buy power in cheap markets to send across interconnectors to more expensive ones, profiting from the spread. This increases supply in the more expensive market, which can decrease prices, as this no longer needs to be met by expensive marginal generators in that market. In the cheaper market, however, prices can increase - as these generators come online.
The balance between these two effects largely determines interconnector flows. While interconnectors frequently operate at full capacity, they can also be partially utilized - up to the point at which prices equalize in both markets.
Partial flows are more common between markets with similar prices. The North Sea link with Norway, for example, imports at full capacity 46% of the time due to low prices in the NO2 market.
In Britain, interconnectors usually reduce prices
As prices in Great Britain are higher, on average than most of Europe, interconnectors usually decrease prices here - as large volumes of cheaper power can be imported during times of high demand.
For example, prices in a typical evening peak could be set by a low-efficiency CCGT at £90/MWh. If prices in Europe are lower than this, interconnectors would import at full capacity. This would lower the generation requirement and move the margin to higher efficiency CCGTs with a lower price of £80/MWh. This reduction in the peak price compresses the daily price spread available in Britain.
When wind generation is high, power can be exported. If prices are significantly higher in Europe, and insufficient marginal wind generation is available in Britain, this can sometimes increase prices here as marginal gas generators come online to meet increased demand.
Britain is currently a net importer of power - but this could soon change
Currently, Britain is a net importer of power, importing around three times more than it exports.
As Britain further builds out its wind capacity, low marginal prices will become more common, when excess wind generation outstrips demand. We project that it will become a net exporter of power by 2030.
Ultimately, further interconnection will be vital for net zero, as countries share and diversify their sources of renewable energy - allowing Britain, for example, to export to Norway when it is windy and import hydropower when it is not.