In a recent blogpost, Professor James Bushnell of the University of California, Davis, discussed Federal Energy Regulatory Commission actions against JP Morgan concerning their “creative” electricity market offer practices. By switching back and forth between offering and self-scheduling generator capacity, JP Morgan was apparently able to garner significantly higher profits than if it had offered its assets competitively. In his discussion, Bushnell addresses the increasingly complex forms of US real-time electricity markets. And in response, Stephen Littlechild (former Director General of Electricity Supply in England and Wales) asks: What’s the moral of the story?
To me, the moral of the story is this: The rules for participating in electricity markets should be designed to reflect underlying technological characteristics but not to provide significantly more flexibility in the specification of offers than is justified by the technology.
An obvious example: There is little justification, from a technological perspective, for allowing hour-by-hour changes in offers from thermal generators in either the day-ahead or real-time markets (or between the day-ahead and real-time markets) without an associated change in fuel costs or change in the operational status of the generator. Similarly, it is hard to see why a generating unit would be constrained, by technology or contract, to be repeatedly bouncing between a self-scheduled generation level and the flexibility implied by an offer.
Nevertheless, some markets provide significant flexibility to change offers hour-by-hour or change the status of the generator from scheduled to offered (while others do not). As a general observation, the more parameters that can be adjusted in the offer (particularly in the case of having significantly more parameters than justified by the underlying technological characteristics), the greater a market participant can exercise market power. Conversely, limiting the flexibility in offers to what is justified by technological characteristics will tend to limit the exercise of market power.
The moral: regulators must understand the technological underpinning of the issues being represented in the offer and represent that issue parsimoniously in rules.