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Pricing and Gaming in a Simple electricity Market

Pricing and Gaming in a Simple electricity Market. Queen’s University Regulatory Economics Class Guest Lecture November 22, 2012. David Brown Senior Advisor, Regulatory Policy David.brown@ontarioenergyboard.ca. Overview. Deregulation in Electricity Potentially competitive sectors

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Pricing and Gaming in a Simple electricity Market

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  1. Pricing and Gaming in a Simple electricity Market Queen’s University Regulatory Economics Class Guest Lecture November 22, 2012

  2. David Brown • Senior Advisor, Regulatory Policy • David.brown@ontarioenergyboard.ca

  3. Overview • Deregulation in Electricity • Potentially competitive sectors • Regulated natural monopoly sectors • Motives for restructuring • Concept of congestion in general • A simple electricity grid • Pricing, shadow prices, LMP • Ontario’s uniform pricing • Congestion side payments and gaming

  4. Structure of the Electricity Sector Demand bids Dispatchable loads

  5. Deregulation in electricity • Potentially competitive sectors • Natural monopoly regulated sectors • Motives for electricity deregulation: Official story • Transfer investment risk to private sector • Greater price and cost transparency • Benefits of competition • Motives for electricity deregulation: Real story • Political lobbying by industrial loads

  6. Congestion Generally • Economic Activity takes place via infrastructure networks. Examples are: road systems, telephony, gas pipelines, electric grid, the banking system, air travel system. • Some networks are “hard” like the grid, gas pipelines, road system. Some are “soft” like common languages e.g.., English, common software packages e.g., Microsoft Windows. • Mostly networks are in the background when we think of the activity that uses them – we take them for granted. • Congestion: reaching the capacity of the network to transmit what ever it transmits.

  7. Gardiner and Lakeshore

  8. Two regions trading P S2 S1 • Region 1 Region 2 Aggregate • S1: P = 5 + 0.5Q S2: P = 10 + 0.5Q • D1: P = 30 – 0.5Q D2: P = 30 – 0.25Q D2 D1

  9. Two regions trading

  10. Congestion generally • When the infrastructure is uncongested production is at its highest and there are no “congestion costs”. The quantity is produced at its lowest possible cost. • When trade is restricted (to 7 units in the example) or not possible there is a re-dispatch of production from lower cost to higher cost producers. The total produced is lower. There is a price difference between the two regions. • Starting from the no trade / no infrastructure position a social decision must be made as to how much capacity to build.

  11. Congestion generally • This decision has that “one size must fit all” characteristic of many public goods. • Thus the decision will tend to be made in the political arena. • Who will oppose larger capacity and who will support it?

  12. Congestion generally • These types of issues arise frequently in regulatory economics • There is one very big example of a congestion story happening right now in North America with big implications for Canada • What is it?

  13. A three-node electricity grid • In figure 3 in the text the market price would be $30 given a demand of 130 MW. • Generator 2 at the NW node would be earning rents as its costs are $20 / MW while it receives the price of $30.

  14. A three-node electricity grid • In figure 6, with locational marginal pricing, there are rents being earned but not by the generators.

  15. Ontario’s uniform price system • Although the intention at market opening in 2002 was to move to an LMP system, it never sat well with the Ontario government. • Also, it would have meant higher prices for consumers in southern Ontario – many of whom are politically influential.

  16. Uniform prices and two schedules:Congestion side payments • CMSC for generators = Operating Profit (MQSI) – Operating Profit (DQSI) • Operating profit in the market schedule is defined as: • Operating profit(MS) = (MCP – Offer price) * MQSI • Similarly operating profit in the dispatch schedule is defined as: • Operating profit(DS) = (MCP – Offer price) * DQSI • Therefore CMSC is: • CMSC = (MCP – Offer price) * MQSI - (MCP – Offer price) * DQSI • = (MCP – Offer price) * (MQSI – DQSI)

  17. Uniform prices and two schedules:Congestion side payments • CMSC (for DLs and exports) = Operating Benefit (Market Schedule) – • Operating Benefit (Dispatch Schedule) • CMSC = (Bid * MQSW - MCP * MQSW) - (Bid * DQSW - MCP * DQSW) • Where MQSW = market quantity scheduled for withdrawal • DQSW = dispatch quantity scheduled for withdrawal • Rearranging the formula gives: • CMSC = (Bid – MCP) * (MQSW – DQSW)

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