The Counteraction of the Merit Order Effect: Wind Power and Strategic Withholding on the Swedish Electricity Market

Sammanfattning: One of the posited benefits of renewable energy in electricity markets is its potential to drive down prices - the merit order effect. However, diversified firms with both renewable and conventional energy production in their portfolios have an incentive to counteract such an effect by withholding their high cost production. Thus, it has been hypothesized that an increased share of renewable production that is owned by such firms leads to higher prices. The empirical evidence is thin, and no previous studies incorporate electricity grid congestion in their models. Using a novel approach to estimate firm wind production based on wind power plant data and wind speed measurements, we investigate both the main effect of ownership and its interaction effect with congestion on the Swedish electricity market. The results show that diversified firms counteract the merit order effect in Sweden - when the share of renewable production that is supplied by diversified firms goes from 0% to 100%, prices increase by 13.7% on average. Finally, we test several configurations of congestion, using both an instrumental variables approach and an endogenous switching regression approach to account for possible endogeneity. Our results are inconclusive but suggestive with respect to congestion, indicating that this feature is important to consider in future studies. Our results have important policy implications for electricity market monitoring and the design of renewable energy support policies.