A Proposal for Wholesale Electricity Markets

Wholesale markets for electricity need to determine: i) the selection of producers allowed to actually supply energy to the grid; ii) the price of energy paid; iii) how revenues are distributed among producers. The design of markets for electricity entails several empirical and theoretical challenges, such ensure an efficient energy generation mix, contain consumers' costs and guarantee producers' long term sustainability. The literature has shown that the two most common structures adopted in wholesale electricity markets, the pay-as-bid and pay-as-clear, present several theoretical and practical problems. The shocks in energy prices due to the recent conflicts reinvigorated the debate on the design of energy markets. We contribute to this debate proposing a sort of "third way" between the two above-mentioned systems. We present a variation of the standard market organizations and analyse its properties under the usual assumptions adopted by the literature. We show that the proposed market design guarantees the selection of the most efficient producers and ensures the equitable distribution of profits. Moreover, the proposed market structure provides a policy instrument that allows governments to promptly adjust market conditions to specific circumstances, for example preventing the gener- ation of excessive profits caused by spikes in fossil fuel prices. We conclude that the proposed market mechanism guarantees a virtuous compe- tition among producers, rewards suppliers with sufficient revenues to sustain their production and contains the cost of electric power for consumers even under extreme conditions of stress such as those caused by spikes in prices of fuels.