Investigating Price Formation Enhancements in Non-Convex Electricity Markets as Renewable Generation Grows

Abstract

Continued growth in wind energy penetration increases the demand for operational flexibility on the grid. It is not well-understood if the price formation process in current U.S. electricity markets will appropriately reward the provision of operational flexibility. This study investigates how continued growth in wind penetration impacts conventional marginal pricing efficiency and assesses its ability to remunerate operational flexibility. It also investigates the extent to which alternative marginal pricing schemes that seek to minimize out-of-market payments enhance remuneration of flexibility. Using a custom-built model, we simulate PJM’s hourly electricity market outcomes under conventional and alternative marginal pricing schemes for three wind penetration levels. We find that the increasing demand for operational flexibility increases the frequency and magnitude of unrepresentative price events that suppress energy prices and thus the market’s ability to remunerate flexibility. We find that the alternative of convex-hull pricing, which minimizes out-of-market payments, can largely overcome these issues.