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Capacity Mechanisms and Effects on Market Structure

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  • Elberg, Christina
  • Kranz, Sebastian

Abstract

Liberalized electricity markets are characterized by a fluctuating price-inelastic demand, non-storable electricity and often show substantial market shares held by one or few incumbent firms. These characteristics have led to a controversial discussion concerning the need for and the design of capacity mechanisms, which combine some form of capacity payments with price caps in the spot market. The purpose of this study is to understand the effects of different capacity mechanisms on the market structure. We consider a model with a dominant firm and a competitive fringe and investigate the impact of price caps and capacity payments on investment incentives and market shares of both parties. While lower price caps reduce the potential for the exercise of market power in static models, we find that in the dynamic model with endogenous investments lower price caps increase market concentration and the frequency of capacity withholding, as well as, the dominant firm's profits.

Suggested Citation

  • Elberg, Christina & Kranz, Sebastian, 2013. "Capacity Mechanisms and Effects on Market Structure," VfS Annual Conference 2013 (Duesseldorf): Competition Policy and Regulation in a Global Economic Order 79811, Verein für Socialpolitik / German Economic Association.
    • Handle: RePEc:zbw:vfsc13:79811
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    References listed on IDEAS

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    Cited by:

    1. Sebastian Schäfer & Lisa Altvater, 2019. "On the functioning of a capacity market with an increasing share of renewable energy," Journal of Regulatory Economics, Springer, vol. 56(1), pages 59-84, August.
    2. Elberg, Christina, 2014. "Cross-Border Effects of Capacity Mechanisms in Electricity Markets," EWI Working Papers 2014-11, Energiewirtschaftliches Institut an der Universitaet zu Koeln (EWI).
    3. Bajo-Buenestado, Raúl, 2017. "Welfare implications of capacity payments in a price-capped electricity sector: A case study of the Texas market (ERCOT)," Energy Economics, Elsevier, vol. 64(C), pages 272-285.

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    More about this item

    JEL classification:

    • L11 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Production, Pricing, and Market Structure; Size Distribution of Firms
    • L51 - Industrial Organization - - Regulation and Industrial Policy - - - Economics of Regulation
    • L94 - Industrial Organization - - Industry Studies: Transportation and Utilities - - - Electric Utilities

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