On the design of electricity auctions with non-convexities and make-whole payments

Electricity markets that allow the generation units to submit multi-part bids and take into account the technical characteristics of these units are characterized by non-convexities. Such market designs, when operated under marginal pricing, may result in market outcomes where truthful bidding results in losses for the respective participants. To deal with this highly undesirable prospect, make-whole payments are foreseen in centrally committed market designs. To study the behavior of market participants in such designs, we consider a stylized capacity-constrained duopoly, where we add a bid/cost recovery mechanism that “recovers” (compensates) potentially incurred losses providing make-whole payments. We then consider a modification of this mechanism in which the market participants have to respect a regulated cap to be entitled to make-whole payments. This yields a rather non-trivial electricity auction. We employ a game-theoretic methodology to identify equilibria for the two mechanisms, for different levels of demand, and examine their properties. Finally, we discuss the implications that the analytical results for the stylized model may have on more realistic unit commitment models of day-ahead electricity markets with non-convexities.