2005 IEEE/PES Transmission and Distribution

Conference & Exhibition: Asia and Pacific

Dalian, China

Comparison of Pricing Schemes of Several

Deregulated Electricity Markets in the World
Yuan-Kang,Wu
The author was with Taiwan Industry Technology Research Institute and is now with ChungChou Institute of Technology, Taiwan

Abstract - As the power system is deregulated, transmission re-dispatch would create additional costs. These costs are
congestion management in an open access environment is a new defined as the congestion cost and would be allocated into the
challenge to transmission operators. Improper implementation of responsible parties based on different pricing methods. These
congestion management (CM) can impose a major barrier to
competitive electricity trading. Therefore, system operators pricing mechanisms should provide a clear ‘price signal’ to
should provide market participants with an appropriate and market participants. They are also critical in assessing market
efficient CM procedure. In addition, the associated pricing efficiency. The allocated prices may be in the form of uniform,
mechanism based on the allocation of congestion payments should LMP or Zonal prices. Zone-based pricing was proposed as an
provide a clear ‘economic signal’ to market participants. Since alternative to the node-based approach to simplify nodal and
power industry started to deregulation in the world, each transmission pricing. It was inspired with the fact that
restructuring market has proposed its CM procedure and pricing
mechanism based on its particular network characteristic. These congestion is expected to be negligible or small among some
mechanisms should be investigated and compared. The analysis nodes with similar LMP price and these nodes could group into
results would help market designers improve their CM operation one zone. The paths connecting these zones are referred to as
procedures and provide a better pricing approach that can inter-zonal lines and have frequent congestion. However, the
provide a more reasonable economic indicator for generation drawback of the zone-based pricing is the difficulty to define
resource allocation. zonal boundaries [1]. Different pricing mechanisms will be
This paper reviews the congestion management (CM) schemes
and the associated pricing mechanisms utilized by four main discussed in this paper.
electricity markets: the old UK Pool, Nordic Pool, Northeast Electricity markets with different models have been
American markets (PJM, ISO-NE, ISO-NY), and the UK NETA developed in many countries all over the world. This paper
system. An eight-bus system is provided to help illustrate the briefly reviews the CM and the associated pricing mechanism
operations of CM and the corresponding pricing mechanism in used by four main power markets in the world, including the
the four transmission market structures. Finally, a comparative old UK Pool, Nordic Pool, North American markets (PJM,
analysis in the four representative pricing schemes has been
studied in this paper so as to assess their efficiencies, and the ISO-NE, and ISO-NY), and NETA in the UK. In addition, a
effectiveness of the market pricing signals. comparative analysis in the four representative CM schemes
has been studied to compare the various CM approaches so as
I. INTRODUCTION to assess their efficiencies and the effectiveness of the market
pricing signals.
The advent of open access transmission and the spread of
competitive electricity markets have resulted in the growing II. TEST SYSTEM
prominence of transmission congestion, which has been
regarded as a major obstacle to vibrant competitive markets. A simple eight-bus system is provided to illustrate the
Transmission system congestion occurs when available, low operations of congestion managements and the corresponding
cost supply cannot be delivered to the load locations due to pricing mechanisms in the four market structures. The
transmission thermal, voltage, or stability limitations. eight-bus system of Fig. 1 consists of seven generators and five
Congestion could result in preventing new contracts, consumers [2][3]. The transmission characteristics are given in
infeasibility to fulfill in existing contracts, monopoly of prices TableⅠ. The bid volumes and prices of generators, adjustment
in some regions of power systems and damages to system prices and ranges of generators, and load data are given in
components. Therefore, congestion management (CM) is TableⅡ. For simplicity, the bus voltages are fixed at one per
becoming more important in the emerging deregulated unit assuming sufficient reactive power sources. All
environment, and the system operator (SO) needs an efficient, transmission lines are modeled as lossless and the line
non-discriminatory mechanism to solve the congestion reactance is in per unit on a basis of 100MVA in order that the
problem. DC power flow can be utilized in our examples. The example
In real power markets, the main action of system operators is simplified in many ways to make the pricing mechanism
to alleviate congestion is to use generation re-dispatch without clear. For real markets, the algorithm could be expanded to
carrying out load or transaction curtailments. Generation include crucial technical considerations such as ancillary

0-7803-9114-4/05/$20.00 ©2005 IEEE. 1

service, price elasticity on demands, voltage and transient a single price, not a price curve. Next, the SO will evaluate if
stability, must-run generators, market power mitigation and transmission constraints would occur under the unconstrained
reactive power effects. dispatch. If there is no congestion, the dispatch obtained from
8
the market dispatch stage is executed and the clearing price is
G1
1 L8 published. If there are constraint violations, the SO would
G8 execute a congestion re-dispatch.
7
TABLE Ⅱ
2 G7
L2 GENERATION AND LOAD DATA

G2 Bus G Bid Bid Adjustment range Inc/dec Load

4 volume price Min Max price (MW)
5 6 L6 (MW) (£/MWh) (£/MWh)
(MW) (MW)
3
1 G1 600 10 0 600 10 -
G31 G32 L4 G5 L5
2 G2 200 20 0 200 20 300
3 G31 100 35 0 100 35 -
Figure 1: The eight-bus test system G32 100 50 0 100 50 -
4 - - - - - - 300
5 G5 200 30 0 200 30 300
TABLE Ⅰ 6 - - - - - - 250
BRANCH DATA OF THE EIGHT-BUS SYSTEM 7 G7 200 20 0 200 20 -
Line From To Reactance Limit 8 G8 200 40 0 400 40 300
bus Bus (pu) (MW)

1 1 2 0.02 300
Under the UK pool, the actual price paid to the generator is
called the Pool Purchasing Price (PPP). This is calculated by:
2 1 3 0.0065 380
3 1 8 0.03 150 (1)
PPP = SMP + LOLP × (VOLL − SMP )
4 2 3 0.02 300
5 3 4 0.03 282 where LOLP is the loss of load probability and VOLL is
6 3 8 0.03 140 defined as the value of loss load. On the other hand, the price
7 4 5 0.01 120 that the supplier companies pay to obtain power from the UK
Pool is termed Pool Selling Price (PSP), which is determined
8 5 6 0.018 240
from the SMP and transmission costs (uplift costs). The PSP is
9 5 8 0.03 230
calculated by:
10 6 7 0.022 340
11 7 8 0.015 250 PSP = PPP + Uplift (2)

The PSP was paid by customers for their metered demand. It

III. THE CM SCHEME AND PRICING MECHANISM
was calculated to maintain a balance between payments to
UNDER THE UK POOL (UNIFORM PRICING generators and the costs of uplifts. The Uplift includes the cost
of providing system re-dispatch operation, system losses, and
APPROACH)
other ancillary services. Therefore, the actual energy costs were
In the prior UK Pool, the market participants submit masked by these uplifts.
day-ahead bids to the SO, and the SO predicts the next day
load. The operation of the Pool typically includes two distinct The UK Pool was a non profit-making institution that must
stages. The first stage is termed market dispatch and the second balance its cash flow without mismatches. Therefore, it collects
one is called congestion re-dispatch. The dispatch process in a payments from the loads on the basis of the PSP and forwards
competitive Pool is very similar to the dispatch mechanism them to the generators based on the PPP. It is obvious that the
under traditional regulated operational procedures except that total load charges exactly match the total generator revenues.
the fuel cost curves are replaced by price bids. During the In order to hedge the uncertainty on the uniform system price,
market dispatch, generators are placed in an ascending order it was estimated that about 80% of Pool power in the UK
according to their bid prices. A sufficient number of the least system is covered by Contracts for Difference (DfD) [4]. It is a
expensive generators are then selected to meet system form of bilateral trade between generators and the major
predicted demands and the market-clearing price is determined distributors (RECs), which actually stands outside the Pool
by the most expensive bid that has been accepted. For ease of pricing process.
explanation, it is assumed in the example that a generator bids

2
IV. THE CM SCHEME AND PRICING MECHANISM Each participant is paid or charged according to its nodal price.
UNDER THE NORDIC POOL In the north American PJM, ISO-NE, and ISO-NY markets,
the SOs first conduct a centralized market dispatch. The
The two independent system operators (ISOs) in the Nordic bid-based dispatch is determined from the offers of the market
Pool market area have different philosophies for congestion participants. The SOs then make a congestion assessment study
management. In Norway, the spot market is split into price for the given conditions. If there is no congestion, the LMP at
areas to deter congestion. In this section, this CM approach, each node is the same as the SMP, implying no congestion cost
market splitting, is under discussion. The first stage for the would be incurred to market participants. On the contrary, if
Nordic Pool operation is identical to the market dispatch in the the analysis indicates some congestion conditions, the SOs will
UK Pool. Next, the SO uses the forecasted operational state of perform the most economical re-dispatch of generators based
the grid based on the market dispatch information to determine on generators’ bid resources.
whether a partitioning of the grid into two or more zones is Since these LMPs could capture the cost of both energy and
required. Once congestion is predicted, the SO will split its congestion; therefore, they would be the correct signals to price
grid and carry out a zone-based market dispatch. congestion. However, LMPs are unknown before the market
The system price is calculated using the bids from all clears but bilateral contracts are typically signed a month or
participants in Nordic power exchange area. Grid capacities even a year ahead, which would bring uncertainty to the
and congestion problems are not included in this calculation. amount of congestion charges based on the LMP approach.
The price is therefore often referred to as the unconstrained Therefore, various congestion revenue rights (CRR) [6] have
market price. If each line flow does not exceed its capacity, the been developed for hedging the risk of congestion costs. They
system price is the only price for the entire market area. In include the flow-based rights and the point-to-point rights such
other words, all Nordic area prices are identical to the system as the fixed transmission rights (FTR) in the PJM market, the
price. However, if grid bottlenecks are detected during transmission congestion contracts (TCC) in the ISO-NY, and
preliminary calculations of the system price, separate area the firm transmission rights in the ISO-NE. The economic
prices are established to relieve grid congestion. value of a FTR is determined by the difference in the
In Norway, because of the topology of its transmission day-ahead hourly LMP values between its source and sink, and
system, most congestion will appear as overloads in certain its MW reservation.
transmission corridors. When the tie-line flow between the two Under the LMP mechanism, the revenue of generator j
areas is expected to be above its total transfer capability, the becomes:
system is divided into bid areas separated by the corridors. The (3)
R j = λ j PG
spot price in each area is determined such that the expected j

transmission between the two areas equals the TTC of the tie where λ j is the energy LMP of the bus where generator j is
lines. As a result, the spot price in the surplus area will be
located. The charge to load k becomes:
reduced and the spot price in the deficit area will be increased.
Ek = λk PG (4)
In the real Nordic Pool systems, congestion would mostly k

exist at the same transmission elements since the features on

generation deficient and load centers would not change VI. THE CM SCHEME AND PRICING MECHANISM
dramatically in the near term. In addition, its geographical UNDER THE NETA IN THE UK
characteristic leads to its power flows in the north-south Under NETA, all trades are based on the bilateral or
direction because the large part of hydro plant production is multilateral contracts. These financial arrangements are of no
placed in the north while consumption is more spread out in concern to the SO. Prior to gate closure, all parties are required
the south. Therefore, the zone definition is easy to implement to submit the details of their contract transactions to the SO.
and the market splitting method is feasible for its congestion The sum of generated power from individual transactions is
management. called the Final Physical Notification (FPN). In reality, the
FPN and actual system conditions in the real time cannot be
V. THE CM SCHEME AND PRICING MECHANISM met accurately and the mismatch of power takes up to around
UNDER THE NORTH AMERICAN POWER 2~3% of the total power transaction. This mismatch comes
MARKETS from load forecast errors or system outages. Therefore, during
To induce efficient use of both transmission grids and the balancing market, the SO uses participants’ Offer/Bid pairs
generation resources by providing correct economic signals, a to relieve congestion. Offers are purchased to cater for the
nodal price or spot price theory for the deregulated power shortfall when the actual load is above the level of FPN. Bids
system has been developed [5]. A Locational Marginal Price are purchased when the actual load is lower than the FPN. If
(LMP) is the marginal cost of supplying the next increment of generators or loads at any bus do not submit Offer/Bid pairs,
electric energy at a specific bus, considering generation these participants will not be involved in the re-dispatch
marginal cost and the physical aspects of the transmission schedule. The SO only uses voluntary Offer/Bid pairs for
system. LMP is also called the Bus Incremental Cost (BIC). congestion management, and the two cash-out prices, SBP and

3
SSP, are calculated based on the accepted Offer/Bid pairs indicated by the dotted line and it is different from the
respectively. However, the participants who did not provide projected system load (FPN). In this figure, from 0 to 8
their Offer/Bid pairs would be automatically forced to pay or minutes and from 15 to 30 minutes, the actual load is above the
receive market cash-out prices in the imbalance settlement FPN and therefore the system requires the Offers from BM
process if they have imbalance between their FPNs and actual units. In addition, the SBP price will be calculated based on the
outputs. two periods during the 30 minutes.
In this paper, the NETA pricing mechanism is illustrated by
the eight-bus system and TableⅢ shows the details for these
bilateral and multilateral contracts between generators and
Imbalance
loads. For example, generator G1 has a multilateral contract to
serve load L4 and L5 simultaneously, and generator G2 has system is short of
only one bilateral contract with load L7. In general, the amount energy
of each contract is identified by participants based on their load 50
forecasts. If there is a shortage or surplus in energy, the SO will FPN = 300MW
re-schedule the outputs of voluntary generators or loads in the 20
balancing market. system is long
TABLE Ⅲ of energy
DESIGNATED DATA FOR CONTRACTED GENERATORS AND LOADS
Load Preferred load Contracted generation to
schedule (MW) serve load
L2 300 G7 (300)
L4 300 G1 (300) 8 15 30 time
L5 300 G5 (120), G1 (180)
L6 250 G2 (250) Figure 2: The FPN and the actual load profile at bus 8 for a 1/2-hour period
L8 300 G31 (60), G5 (40), G8 (200)
Total 1450 1450MW
VII. A COMPARATIVE ANALYSIS IN THE FOUR
REPRESENTATIVE CM AND PRICING
At half an hour before the gate closure, all parties submit APPROACHES
their FPN and Offer/Bid pairs. In this example, these data for a
specific 1/2-hour are given in Table Ⅳ. The Offer/Bid pairs TableⅤ provides a comparison on generator revenue results
are solely for imbalance purposes and are separate from based on four different pricing mechanisms and Table Ⅵ
bilateral/multilateral energy transactions. The definition of shows the corresponding demand charges. These comparisons
Offers for generation or load is to inject electricity into the are based on the results from the four kinds of pricing schemes,
system, and the definition of Bids is to remove electricity from which have the same network. It is observed that the
the system. In this example, generator G1 and G5 do not differences on generator revenues and load charges are very
submit their Offer/Bid pairs to take part in the balancing significant among different markets.
market dispatch competition, which describes the balancing
market is a voluntary market. If necessary, the SO would
accept some of these Offer/Bid pairs to balance the system.
Due to the inaccuracies on generation output and short-term
load forecasting, the energy imbalance between the FPN and
actual system conditions would occur most of the time. In this
example, Fig. 2 is assumed as the actual load profile for a
specific trading period at bus 8. The FPN of load L8 is
indicated by the bold line. The actual system requirement is

4
 TABLE Ⅳ
BIDS AND OFFERS SUBMITTED BY BM PARTIES
Item Generator Load
G1 G2 G31 G32 G5 G7 G8 L2 L4 L5 L6 L8
Contract (MW) 480 250 60 0 160 300 200 300 300 300 250 300
Contract price 10 20 35 50 30 20 40 20(G7) 10(G1) 30(G5) 20(G2) 35(G31)
(£/MWh) 10(G1) 30(G5)
40(G8)
FPN (MW) 480 250 60 0 160 300 200 300 300 300 250 300
Pair amount - 20 20 20 - 20 20 10 10 10 10 10
(MW)
Offer price - 25 35 50 - 25 40 60 80 90 70 80
(£/MWh)
Bid price - 10 18 20 - 10 15 22 18 21 25 20
(£/MWh)

TABLE Ⅴ the uniform pricing approach would increase social costs and
RESULTS OF GENERATOR REVENUES BASED ON VARIOUS PRICING cause an inefficient market.
MECHANISMS
Generator revenues (£/hr) Under NETA, generator revenues and load payments are
Generator UK Pool Nordic North NETA based on their own bilateral or multilateral contracts. The
(Uniform Pool American (Bilateral deviation between their FPNs and actual requirements will be
pricing) (Zonal (LMP) contracts)
pricing)
charged the imbalance costs, which are collected from the
G1 24000 12000 10525.2 4800 traders that submitted their Offer/Bid pairs. The SO would
G2 7682 3682 3682 5456.8 solve congestion and energy imbalance problems by using
G31 500 0 0 2100 these pairs in the balancing market. An examination of the
G32 0 0 0 0 results in Table Ⅴ and Ⅵ indicate that the main generation
G5 8000 8000 6853.94 4800
G7 8000 8000 7687.34 6500 revenues and load charges are dependent on their contract
G8 10636 10636 10636 8469.1 prices. For example, G1 has less benefit under NETA system
Total 58818 42318 39384.48 32125.9 than under other pricing schemes because its bilateral contract
price is only 10 (£/MWh). In another example, load L8 has to
TABLE Ⅵ
pay high energy costs due to its high contract prices.
RESULTS OF LOAD CHARGES BASED ON VARIOUS PRICING
MECHANISMS The uniform pricing was adopted in the UK Pool. This
Load charges (£/hr) approach would work if there was ample transmission capacity.
UK Pool Nordic North NETA When congestions occur frequently, the frequent exercises of
Load (Uniform Pool American (Bilateral
pricing) (Zonal (LMP) contracts)
re-dispatch or other CM approaches would reduce market
pricing) efficiency with heavy uplift charges. In addition, the uniform
L2 300MW 12169.24 6000 6000 6220 pricing could not send the appropriate economic signals to new
L4 300MW 12169.24 12000 9395.7 3000 generators so that they could locate in areas where the need for
L5 300MW 12169.24 12000 10280.91 5400
new transmission lines was a minimum. The same drawback
L6 250MW 10141.04 10000 9036.4 5250
G8 300MW 12169.24 12000 12000 12255.9 also occurs at the zonal-pricing markets. For example, the
Total 58818 52000 46713.01 32125.9 California market adopts the zonal pricing approach. By
definition, congestion within zones is less frequent under the
Table Ⅴ shows the pricing mechanism under the UK Pool zonal pricing approach. However, the intra-zonal transmission
would benefit the total revenue for generators. In addition, the congestion in California has increased dramatically because
results of Table Ⅴ strongly suggest that generator G1 should transmission upgrades have not kept pace with the addition of
new generation and these new generators were sited at
generate as much as possible to maximize its profit under the
inappropriate locations. The intra-zonal congestion has led to
uniform pricing market (the UK Pool) because G1 is paid 40
inefficient market outcomes resulting in significant cost
(£/MWh) that is much higher than its bid price of 10 (£/MWh),
impacts on consumers in California. It should be noted that this
which may contradict operator’s objective of congestion relief
problem would possibly emerge in other uniform or zonal
and jeopardize system security. On the other hand, the total
pricing markets in the future because these pricing mechanisms
payments under the UK Pool are the highest. For example,
cannot provide traders with effective pricing signals on
based on the results of Table Ⅵ, loads pay 26% more under
generation and transmission line investments.
the Uniform pricing approach than under the LMP mechanism The LMP scheme is a useful one that can provide correct
in a whole system. That is, significant savings are obtained for signals for the location of new transmission and generation
the loads with LMP mechanisms when congestion occurs but facilities. In addition, LMPs can reflect the congestion costs of

5
all binding constraints. Therefore, the LMP approach has been ISO-NY), and zonal prices (Nordic Pool). The UK Pool is an
under consideration in the California market. However, the example of a nondiscriminatory auction that handles the cost of
unpredictability of transmission congestion implies greater transmission constraints by an uplift charge and uses a uniform
uncertainty of LMPs, which would create price volatility if price for settlement purposes. However, a uniform price over
there were no appropriate financial hedging instruments. This the network can give incorrect signals for siting new power
is the reason why the financial transmission markets in the plants. Similar situation has also appeared in the NETA
PJM and ISO-NY have been developed. system. This is one of the motivations for considering nodal or
zonal prices in a pool-based market design. On contrary, the
VIII. CONCLUSION nodal prices would provide the correct location price signals
but could be very sensitive to operating conditions and network
In the emerging world of competitive electricity markets, characteristics. Therefore, the LMP values were difficult to
improper implementation of congestion management can predict and greater variation has been observed at lower
impose a major barrier to free trading of electricity. The SO has voltage buses.
to provide the market participants with a transparent pricing It is difficult to achieve an efficient pricing mechanism that
policy and send the market parties the right economic signals could fit all market structures in different systems. Each
through the congestion pricing. In the traditional vertically restructuring market has to choose a method based on the
integrated industry, the central operators had full knowledge of particular characteristics of its network. However, the basic
operation and fuel cost curves of each unit. They dispatched principle for a proper pricing approach should provide a
and re-dispatched the system by using security constrained reasonable economic indicator on resource allocation, system
OPF, which was based on the generation fuel cost optimization. expansion, and reinforcement. In addition, it should allocate
However, in the deregulated electricity markets, the main congestion charges to participants who cause congestion and
feature for CM schemes has changed to the bid-price-based reward participants whose schedules tend to relieve congestion.
optimization by the security-constrained dispatch with the
incorporation of multiple transmission contingencies. In REFERENCES
addition, when congestion occurs, voluntary adjustment bids [1] M.I.ALOMOUSH; S.M.SHAHIDEHPOUR: ‘Fixed transmission rights for
from generators and loads are used in the optimization zonal congestion management’, IEE Proc. Gener. Trans. Distrib., 146, (5),
procedure to minimize the cost of adjustments, which is totally 1999, pp.471-476
[2] M.I.ALOMOUSH; S.M.SHAHIDEHPOUR: ‘Fixed transmission rights for
different to the traditional regulated congestion procedure with zonal congestion management’, IEE Proc. Gener. Trans. Distrib., 1999, 146,
centralized mandatory least-cost dispatch. (5), pp.471-476
In the deregulated electricity markets, the market dispatch [3] XING WANG; Y.H. SONG; Q.LU; Y.Z.SUN: ‘Series FACTS devices in
financial transmission rights auction for congestion management’, IEEE Power
(unconstrained) stage for most power markets is the same. Engineering Review, 21, (11), 2001, pp.41-44
These auction-based dispatches have no consideration of [4] A.K.DAVID: ‘Dispatch Methodologies for Open Access Transmission
transmission situations and the resulting price is the SMP (or Systems’, IEEE Trans., Power Syst., 13, (1), 1998, pp.46-53
called MCP). However, the allocation of the congestion costs [5] F.C.SCHWEPPE; M.C. CARAMANIS; R.D.TABORS; R.E.BOHN, Spot
pricing of electricity. (Boston, MA:Kluwer, 1988)
may be performed in more than one method. For example, the [6] MESUT E. BARAN: ‘Equitable allocation of congestion relief cost to
cost of congestion management is allocated to all market transactions’, IEEE Trans., Power Syst., 15, (2), 2000, pp.579-585
participants based on system uplifts (UK Pool), imbalance
cash-out prices (NETA), nodal prices (PJM, ISO-NE,