A Proposal for Reforming the Electricity Market Design

"High electricity prices are a twofold challenge for Austria: they weaken industrial competitiveness and make decarbonisation more difficult," says Bernhard Kasberger, a Senior Economist at WIFO and professor at Johannes Kepler University Linz.

The shift to electricity-based technologies is especially attractive when electricity is competitively priced. This is evident, for example, in the case of heat pumps and electric vehicles: if electricity is significantly cheaper than gas or transport fuels, households and companies are more willing to switch.

One important reason for high electricity prices lies in electricity market design. In many hours, gas-fired power plants set the wholesale market price because they are the most expensive technology still needed to meet demand. Their generation costs depend heavily on the gas price, but also on the CO₂ price. The latter accounts for around one third of the marginal costs of an efficient gas-fired power plant.

The CO₂ price makes sense from a climate policy perspective: under the EU ETS, gas- and coal-fired power plants must surrender allowances for their emissions. This makes fossil-based electricity generation more expensive and improves the competitive position of renewable energy. But because of the uniform pricing rule in the European electricity market, it also raises electricity prices: all generators dispatched in the market receive the same price. If that price is set by a gas-fired power plant, hydro, wind, and solar generators also benefit, even though their operating costs do not rise to the same extent. For households and businesses, this means higher electricity expenditure.

The WIFO Research Brief therefore proposes a targeted reform. If the market-clearing price exceeds a threshold, for example 100 € per MWh, renewable generators would no longer receive the full market price, but instead the market price minus a fixed deduction, for example 28 € per MWh. This deduction is intended to reflect the CO₂ cost component embedded in the electricity price. The resulting funds would be returned to electricity consumers. The aim is to reduce electricity costs without weakening the CO₂ price incentives faced by fossil-fuel power plants.

For Austria, a static simulation based on 2025 data suggests a reduction in average electricity expenditure of around 8.5 percent; for Germany, the figure is around 4.7 percent. In this way, part of the additional profits earned by non-fossil generators as a result of CO₂ pricing would be redistributed to households and businesses.

The proposal is not without trade-offs. Investment incentives for new plants must be preserved, and a hard threshold could create undesirable incentives. The Research Brief therefore discusses exemptions for new plants, support through Contracts for Difference, and a gradual phase-in of the deduction.

"The proposal does not attack the CO₂ price itself. Instead, it seeks to preserve its climate policy function while at the same time mitigating the burden of high electricity prices," states Kasberger.