On the first price spike in summer

The objective of this paper is to determine why price spikes occur in deregulated wholesale markets for electricity, and how effectively they can be mitigated by different modifications to the market. The analysis employs a multi-agent system (MAS) to replicate a spot market with six supply firms, represented by adaptive autonomous agents. These firms submit offers to maximize their own expected profits, and an independent system operator (ISO) clears the market for a predetermined load in a uniform price auction. The firms learn about the market and the behavior of their competitors by comparing actual market outcomes with predicted outcomes based on an estimate of their own residual demand curve. This estimated demand curve is updated each period using a Kalman filter. The main results for creating price spikes are: 1) uncertainty about the system load is an important determinant of observed behavior (i.e. offer curves shaped like a hockey stick) that is replicated in the MAS, and 2) all firms eventually become speculators, and it is unrealistic to expect firms to behave like price takers in a market with six suppliers. The main results for mitigating high prices are: 1) it is impractical to rely on more suppliers, vertically integrated firms, capacity payments or fixed contracts for power to eliminate speculative behavior, and 2) price responsive load is an effective way to mitigate high prices, particularly if some load responds at relatively low prices. Overall, the results show that a MAS can be used to evaluate a wide range of policy options and supplement the results of market tests using human subjects.