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Open Access Publications from the University of California

Testing Strategic Models of Firm Behavior in Restructured Electricity Markets: A Case Study of ERCOT

  • Author(s): Hortacsu, Ali
  • Puller, Steven L.
  • et al.

In this paper, we test if firms competing in an electricity auction submit bids that approximate a benchmark for optimal behavior. First, we derive an equilibrium model of bidding into uniform-price auction spot markets for electricity generators maximizing static profits. Under assumptions of the structure of bidding as a function of private information, firms bid supply functions that maximize ex poste unilateral profits for each possible realization of residual demand. Given the data on marginal costs of generation, this provides a convenient and computationally straightforward method to construct a theoretical "equilibrium" benchmark against which we can compare the actual strategies of bidders.

Next, we use these results to analyze the evolution of competition in the newly deregulated electricity market in Texas. We use detailed data on demand and firm-level bids and marginal costs to compare actual bids to the theoretical benchmark ex poste optimal bids. Using several metrics of performance, we find that the largest seller offered bids that were close to ex poste optimal. However, the other sellers deviated from optimal bidding in important ways and we explore various explanations for the observed deviation. Sellers with larger stakes in the market generally were closer to theoretical benchmark optimal behavior. We also find some evidence of learning over the first year of the market's operation.

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