Exactly how inefficient is the PJM capacity Market?

Abstract

A common feature of electricity markets is the need to assure an appropriate amount of generating capacity to satisfy demand at any given moment. Some regional markets hold a capacity auction which compensates generation facilities for providing power at some point in the future. These auctions are intended to efficiently price capacity via competitive bidding. However, the Pennsylvania-New Jersey-Maryland Interconnection (PJM) regional transmission organization (RTO) has been in litigation before the Federal Energy Regulatory Commission (FERC) over high prices and a lack of competition in their annual capacity market auctions. A peculiar feature of the PJM RTO is its segmented capacity market, where pivotal suppliers have successfully petitioned to separate from the larger market and create captive Locational Deliverability Areas (LDAs) in which they have a dominant market share. We analyze the competitiveness of the market, the growing capacity margins, as well as the PJM LDA market concentration via Hirschfield-Herfindahl Index (HHI), 4-Firm Concentration Ratio (CR4) and Three-Pivotal-Supplier (TPS) test. We find that many LDAs do not operate competitively and have a pivotal supplier with market power, able to set prices unilaterally. In addition, we find that although reserve margins are inordinately high in the PJM market, they are rising along with prices, an outcome that is only seen in monopolistic markets.