Can the North–South Corridor Be Built Cost-Effectively?

As part of its green energy revolution, Germany is planning a mammoth project: Südlink, an 800-kilometre-long power transmission corridor connecting the wind-rich North with consumers in the South. But while everyone wants electricity, no one wants overhead power lines in their backyard. ZEW economist Vitali Gretschko explains how to build the north–south corridor using Market Design methods, without spending billions of euros for underground power lines.

Südlink is meant to run from Schleswig-Holstein over Lower Saxony, North Rhine–Westphalia and Hesse to Bavaria. It’s a gigantic project. What does this have to do with Market Design?

Market Design is about designing rules to achieve optimal solutions in new or existing markets. Among other areas, our research concentrates on procurement mechanisms in which suppliers have private information about costs. Let’s think of Südlink as a procurement process in which the state purchases the right from residents to run the corridor through their backyards. Now a typical Market Design problem is to find rules that lead to the most cost-efficient construction while factoring in residents’ social costs and compensating them accordingly. One solution is to design a mechanism that incentivizes residents to truthfully report their private information about costs.

What are the current plans for the corridor?

After years of conflict between the federal government and the local interest groups, a compromise was reached at the end of 2015 to put the lines underground. The government estimates that this would increase the costs relative to overhead towers by three to eight billion euros. According to a recent report by the Federal Network Agency, none of these projectshas been pursued so far, threatening to delay Germany’s transition to renewable energy. But from a Market Design perspective, the real problem is that the expensive underground option was put on the table without inquiring into the true social costs of an aboveground corridor.

What would a mechanism that considers social costs look like?

Naturally, there are several possible routes for overhead transmission lines. The goal of the Market Designer is to find the best route from a social costs standpoint. To achieve this, potentially affected residents would need to submit bids reflecting their actual social costs at, say, the communal level. In the event that a corridor runs through their community, they then receive a compensation based on their bid. The optimal route of the corridor is then determined by the solution that has the lowest construction costs and the lowest social costs for residents. This makes sure that power lines run along the most efficient routes. Now we can ask whether, all things considered, the aboveground option is better than the expensive underground option. If the answer is no, the transmission lines can still be built underground.

Who are the potential losers of such a solution?

At least on the communal level, there are no losers. Participation in the mechanism is voluntary, and residents are compensated based on the bids they tender. Because bidders are free to place bids that represent their true costs of overhead towers, they cannot be worse off than with the underground option. The rules can also be written in such a way that residents who tender bids above their actual costs lower the likelihood of being selected, so as not to incentivise overbidding. This will result in considerable cost savings for the state, which everyone benefits from. But it’s important that all participants understand the consequences of their bids. Hence, a crucial practical concern for the Market Designer is to choose the simplest rules possible and inform about their potential ramifications.