Water on Fire: Gains from Electricity Trade

In light of the ongoing liberalization of electricity trade in the Nordic countries, and perhaps in Northern Europe, we argue that gains from electricity trade may be different from those traditionally associated with comparative advantages and economies of scale. In particular, we consider gains arising from the exploitation of technological complementarities between hydro and thermal systems. Our theoretical framework highlights essential features of the two systems and allows for an analysis of effects of trade. We study three trading regimes, which may arise either endogenously or because of trade regulations: day–night power exchange, seasonal energy banking and unbalanced trade. The analysis suggests that gradual trade liberalization may be costly.