Quantifying the supply-side benefits from forward contracting in wholesale electricity markets

Frank A. Wolak
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Frank A. Wolak: Department of Economics, Stanford University, Stanford, California, USA, Postal: Department of Economics, Stanford University, Stanford, California, USA

Journal of Applied Econometrics, 2007, vol. 22, issue 7, pages 1179-1209

Abstract: The assumption of expected profit-maximizing bidding behavior in a multi-unit, multi-period auction with step-function supply curves is used to estimate cost functions for electricity generation units and derive tests of expected profit-maximizing behavior. Applying these techniques to data from the National Electricity Market in Australia reveals statistically significant evidence of output-dependent marginal costs within and across half-hours of the day, but no evidence against the hypothesis of expected profit-maximizing behavior. These cost function estimates quantify the economic significance of output-varying costs and how forward financial contract obligations impact the amount of these costs the generation unit owner incurs. This supplier's existing obligations imply average daily production costs that are 8% lower than the profit-maximizing pattern of output with no forward contract obligations. Copyright © 2007 John Wiley & Sons, Ltd.

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