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Optimal Supply Functions in Electricity Markets with Option Contracts and Non-smooth Costs

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  • Edward Anderson

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  • Huifu Xu

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    Abstract

    In this paper we investigate the optimal supply function for a generator who sells electricity into a wholesale electricity spot market and whose profit function is not smooth. In previous work in this area, the generator’s profit function has usually been assumed to be continuously differentiable. However in some interesting instances, this assumption is not satisfied. These include the case when a generator signs a one-way hedge contract before bidding into the spot market, as well as a situation in which a generator owns several generation units with different marginal costs. To deal with the non-smooth problem, we use the model of Anderson and Philpott, in which the generator’s objective function is formulated as a Stieltjes integral of the generator’s profit function along his supply curve. We establish the form of the optimal supply function when there are one-way contracts and also when the marginal cost is piecewise smooth. Copyright Springer-Verlag 2006

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    Bibliographic Info

    Article provided by Springer in its journal Mathematical Methods of Operations Research.

    Volume (Year): 63 (2006)
    Issue (Month): 3 (July)
    Pages: 387-411

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    Handle: RePEc:spr:compst:v:63:y:2006:i:3:p:387-411

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    References

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    1. Green, Richard & Newbery, David M G, 1991. "Competition in the British Electricity Spot Market," CEPR Discussion Papers 557, C.E.P.R. Discussion Papers.
    2. Klemperer, Paul D & Meyer, Margaret A, 1989. "Supply Function Equilibria in Oligopoly under Uncertainty," Econometrica, Econometric Society, vol. 57(6), pages 1243-77, November.
    3. Green, Richard, 1999. "The Electricity Contract Market in England and Wales," Journal of Industrial Economics, Wiley Blackwell, vol. 47(1), pages 107-24, March.
    4. Newbery, D. M., 1997. "Competition, Contracts and Entry in the Electricity Spot Market," Cambridge Working Papers in Economics 9707, Faculty of Economics, University of Cambridge.
    5. Bolle, Friedel, 1992. "Supply function equilibria and the danger of tacit collusion : The case of spot markets for electricity," Energy Economics, Elsevier, vol. 14(2), pages 94-102, April.
    6. Ross Baldick & Ryan Grant & Edward Kahn, 2004. "Theory and Application of Linear Supply Function Equilibrium in Electricity Markets," Journal of Regulatory Economics, Springer, vol. 25(2), pages 143-167, 03.
    7. Aleksandr Rudkevich & Max Duckworth & Richard Rosen, 1998. "Modeling Electricity Pricing in a Deregulated Generation Industry: The Potential for Oligopoly Pricing in a Poolco," The Energy Journal, International Association for Energy Economics, vol. 0(Number 3), pages 19-48.
    8. E. J. Anderson & H. Xu, 2004. "Nash equilibria in electricity markets with discrete prices," Computational Statistics, Springer, vol. 60(2), pages 215-238, October.
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    Cited by:
    1. Holmberg, P. & Willems, B., 2012. "Relaxing competition through speculation: Committing to a negative supply slope," Cambridge Working Papers in Economics 1252, Faculty of Economics, University of Cambridge.

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