EU power market reform toward locational pricing: Rewarding flexible consumers for resolving transmission constraints

The ongoing expansion of wind and solar electricity generation alongside increasing electrification is leading to a considerable strain on transmission capacities and grid bottlenecks in the EU. Coping with this challenge requires increasing system flexibility, e.g. by exploiting the potential for demand-side flexibility. However, in the current market design, demand-side flexibility responds to zonal price signals rather than local needs. As a result, demand-side flexibility may exacerbate rather than reduce congestion. More local price signals are therefore required. This paper assesses possible reform steps and their viability from the perspective of different market participants and the regulators. It reflects insights from European and international workshops and literature. With respect to reconfiguration of the pricing zones, both a moderate increase of granularity and high increase of granularity preceded by various reform steps are considered. As an alternative, a shift to nodal pricing is assessed. It is proposed that such a reform could be pursued, either by parallel reform steps in tandem across all EU countries, or as a sequential phase-in, preceded by nodal pricing implementation in pilot regions based on a regulatory sandbox approach.