Control of Market Power in Electricity Auctions

In a number of jurisdictions, deregulation has led to the establishment of auction spot markets for electricity supply. Short run demand for electricity is almost totally inelastic, and in most situations economically significant amounts of electricity cannot be stored. During periods when demand is relatively high, suppliers with what, in other markets, would be regarded as a relatively small percentage of the industry total capacity have and have exercised extreme market power. This paper proposes and discusses a narrowly targeted and automatic remedy that will keep suppliers with the capacity and incentive for exercising such power from any role in setting the market-clearing price. Acknowledgements: This paper presents the personal view of its author. He has, however, benefited from helpful comments from Peter Cramton, Benjamin Hobbs, Alfred Kahn, Richard, O‘Neill, Shmuel Oren and Steven Stoft.