4: SPOT MARKET MODELS

Transcription

1 4: SPOT MARKET MODELS INCREASING COMPETITION IN THE BRITISH ELECTRICITY SPOT MARKET Rchard Green (1996) - Journal of Industral Economcs, Vol. XLIV, No. 2 PEKKA SULAMAA The obect of the paper Dfferent polcy measures consdered for ncreasng competton n the UK electrcty wholesale spot-market Target at compettve outcome P = MC. Three polcy optons were analysed: forcng companes to sell off some of ther capacty Breakng up the duopoly nto number of smaller companes encouragng entry to the market Semnar on Modellng Electrcty Markets 1998 / 1 Semnar on Modellng Electrcty Markets 1998 / 2 responsblty] The market structure Generaton and sales deregulated n 1st of Aprl The Central Electrcty Generatng Board (CEGB), splt nto four companes: Natonal Power plc (NP) [prvately owned] PowerGen plc (PG) [prvately owned] Nuclear Electrc plc (NUE) [base load] Natonal Grd Company (NGC) [system Semnar on Modellng Electrcty Markets 1998 / 3 The NP and the PG took over all of exstng fossl fuel capacty; NP 30 GW and PG 19 GW n 1990 The NUE supples base load at prce below that of ether NP or PG. The market was an effectve duopoly (two frms) By 1995 entry has occurred n form of Independent power producers usng CCGT generaton Semnar on Modellng Electrcty Markets 1998 / 4 Between the market shares of the two domnant has declned for: NP from 46 % to PG from 28 % to 23.1 The Pool Generators offer bds at whch they provde varous quanttes to the Pool A computer program calculates least-cost mer order dspatch from the bds The prce of the margnal plant bd s pad for all electrcty generated n each half hour (the system margnal prce) The System Margnal Prce (SMP) s the most mportant component of the generators revenues Semnar on Modellng Electrcty Markets 1998 / 5 Semnar on Modellng Electrcty Markets 1998 / 6

2 Generators and supplers can hedge aganst the volatle pool prces usng contracts for dfferences (CDF) (If pool prce s hgher than CDF, the generator pays to buyer the dfference and vca versa f the Pool prce s lower that the CDF. CDFs are fnancal nstruments nsurng prces at whch an agreed upon quantty can purchased or sold. They are not contracts to delver electrcty.) The obect was that: Market outcome the two proft-maxmsng companes compete on prce as Bertrand olgopolsts and effcent prcng wll result (P=MC) or entry threat makes the market contestable ( exstng frms prce effcently to deter further entry) Semnar on Modellng Electrcty Markets 1998 / 7 Semnar on Modellng Electrcty Markets 1998 / 8 the two companes have, however, an ncentve to choose bds above margnal costs for ther plants. Although these plants wll be less tme n operaton the remanng plants wll earn hgher SMP. n 1993 head of the OFFER, Professor Lttlechld consdered of referrng the two companes to the Monopoles and Mergers Commssons (MMC). Semnar on Modellng Electrcty Markets 1998 / 9 The Model Two dfferent models have been appled to the UK spot wholesale market von der Fehr and Harbord (1993) devsed a model whch s based on an explct dscrete bd aucton model. Ths gves step-lke supply functon rather than a contnuous supply schedule Semnar on Modellng Electrcty Markets 1998 / 10 The other, used by Green, s based on Klemperer and Meyer s (1989) supply functon equlbrum model. The two generators submt contnuously dfferentable supply functons to the Pool, rather than dscrete step-functons Market equlbrum s a statc one-shot supply functon equlbrum The Demand Demand varatons over tme consdered, not over states of the world Demand derved usng load duraton curve 2 Demand denoted by: ; dd d D D ( p, t) 0 ; 2 40 The net demand facng frm s D where s the supply of frm(s) ( p, t) q ( ) p q ( p ) Semnar on Modellng Electrcty Markets 1998 / 11 Semnar on Modellng Electrcty Markets 1998 / 12

3 The frms strategy the frms strategy s a functon, mappng prce nto a level of output, ndependent of tme, t : q ( p) : R + R +, The market clearng condton at tme t D ( p*, t) = q ( p* ) Frms profts, π ( p, t), at tme t can be wrtten as π ( p, t) = p D( p, t) q ( p) C D( p, t) q ( p) The choce of q mples a partcular value of p, so the proft-maxmsng soluton can be found by maxmsng proft wth respect to p: dπ ( ) ( ) ( ) ( ) ( ) dq ( p) = + dd p, t D p, t q p p C' D p, t q p Settng ths to zero gves the proft maxmsng prce at tme t and also the proft-maxmsng output at the prce level d D 2 It s further assumed that = 0 so that the prce dt solved above cannot be optmal for dfferent level of demand Semnar on Modellng Electrcty Markets 1998 / 13 Semnar on Modellng Electrcty Markets 1998 / 14 The frst order condton can be re-arranged as The dfferental equaton was solved assumng quadratc costs, lnear demand and lnear MC. It was also assumed that dd. = constant Only a lnear soluton was consdered q ( p) For gven assumed cost parameters the slopes = β p of the supply functons were solved from the dd dq q ( p) = ( p C '( q( p) )) + dfferental equaton. Semnar on Modellng Electrcty Markets 1998 / 15 All results below should be consdered n qualtatve, rather than n quanttatve, terms Average prce and output are reported relatve to the values that would preval f the companes were bddng at margnal cost Welfare s measured by the sum of the consumer and producer surpluses. Ths s maxmsed when P=MC Deadweght losses are normalsed to one for the basecase where the capacty s owned by the two frms. Semnar on Modellng Electrcty Markets 1998 / 16 Comment on the deadweght loss Welfare s often measured by the sum of (dscounted n dynamc models) consumer and producer surpluses. Consumer surplus (CS) s defned as the area between the market prce lne and the demand curve. Producer surplus (PS) s the area between the supply curve and the market prce lne. Mathematcally expressed The deadweght loss assocated wth mperfect competton, compared to (P=MC), s the dfference n the sum of consumer and producer surplus. Below the deadweght loss dsplayed as the shaded trangle for the case of a Monopolst (producng at MR=MC). q* CS 0 PD = ( q) dq p q PS p q q* 0 P S = ( q ) dq Semnar on Modellng Electrcty Markets 1998 / 17 Semnar on Modellng Electrcty Markets 1998 / 18

4 Dvestng exstng capacty The generators dsposng ther capacty. Dsposed capacty bd at MC Prce 1.0 Deadweght loss Proporton dvested An average reducton of 15 % of the capacty (the NP would gve up 1/6 Th. and for the PG 1/8 Th. of ther capacty) showed up as a 40 % reducton n the deadweght loss If the dvested capacty s put n separate company and these companes also adopt lnear supply functons the prces turned out to be hgher and the output lower than n the above case. Semnar on Modellng Electrcty Markets 1998 / 19 Semnar on Modellng Electrcty Markets 1998 / 20 Breakng up the duopoly The second polcy opton consdered was splttng the exstng companes Prce DW-loss NP,PG NP1,2;PG NP1,2;PG1,2 NP1,2,3;PG1,2 Encouragng entry about 15 GW of new capacty has been bult. Of ths 13 GW was n 19 Combned Cycle Gas Turbne (CCGT) statons. Over half of ths was bult by ndependent power generators and the rest by NP and PG Green models the entry by shftng the duopolsts demand curve nward by the amount of the entry Semnar on Modellng Electrcty Markets 1998 / 21 Semnar on Modellng Electrcty Markets 1998 / 22 New entry causes prce to fall and output to rse. Deadweght loss starts to rse, however, after the new capacty costs start to domnate 1.0 DW-loss 0.0 Prce Amount of entry (GW) Semnar on Modellng Electrcty Markets 1998 / 23 Conclusons The model over-estmates the frms mark-ups for no account of the effect of the contract market s taken the presence of the regulator s gnored threat of entry s not modelled explctly The model s able to predct the relatve effectveness of three polces for mprovng compettveness Semnar on Modellng Electrcty Markets 1998 / 24

5 reducton of the exstng frms capacty brought sgnfcant welfare mprovement for the consumers at relatvely low cost Splttng the generators would have acheved the greatest effect on ther market power but ths remedy s unrealstc poltcally watng for further entry may take too long tme Overall the model results ndcate that the strategy chosen by the regulator, dvestng the exstng capacty, s the most preferable one Semnar on Modellng Electrcty Markets 1998 / 25 On Queston concernng mplementaton of the frst polcy opton Professor Green repled: Thnk of a frm whch could produce 10 unts at a margnal cost of 10 -.e. c = 1. the dvested frm wth 10 per cent wll be able to produce only 1 unt at a cost of 10, whle the remander can produce 9 unts. Dvde margnal cost by output and you have the cost parameters. Semnar on Modellng Electrcty Markets 1998 / 26 References von der Fehr and Harbord (1993) Spot market competton n the UK electrcty ndustry, The Economc Journal, vol Klemperer and Meyer (1989) Supply functons equlbra n olgopoly under uncertanty Econometrca, 57. Semnar on Modellng Electrcty Markets 1998 / 27