Interaction Between the EU ETS and the Nordic Electricity Market: Setting the Scene

This white paper sets the scene for research on the interaction between the electricity market and the European Emissions Trading Scheme (EU ETS). We look at conceptual aspects of price formation, and compare empirical evidence with theoretical expectations through a review of the literature on the functioning of the Nordic electricity market and the EU ETS. From this review a set of prioritised research questions emerges, and we then go on to map available methods to these research questions. This forms a foundation for research that explores different aspects of uncertainty, options for organising the EU ETS and analysis of how the EU ETS may affect price level and volatility in the allowance and electricity markets, as well as investment. Ultimately, the research project that this white paper is a product from, aims to improve the understanding of how the EU ETS, through the electricity market, will affect consumers and the environment. This paper builds a foundation for assessing which specific research questions are most important and where our efforts would add most value. In consideration of the interaction between emissions trading and the electricity market, several related but separate issues and research questions are relevant to analyse. To keep the questions as clearly defined and distinct as possible, we summarize the focus of further research in four areas that frame the discussion on the interaction between the EU ETS and the electricity market, and in broad terms the incentives for investment behaviour that are created. + Understanding and managing uncertainty. + Price interactions between the EU ETS and the Nordic power market. + Incentives for investment created by various approaches to allowance allocation. + How other climate related policies such as renewable support programs interact with the EU ETS and electricity markets.