Competitive Power Markets - Functionality and Dual-Settlement Market

Learn about:

• The day-ahead market 

• The real-time market 

• Economic dispatch 

• Transmission constraints

• Locational Marginal Price (LMP)

• The ancillary service market 

• The capacity market 

The Dual Settlement Market

In competitive markets, the ISOs or RTOs are in charge of ensuring that power is available as it is demanded.  They do this by:

• Forecasting demand

• Scheduling generation

• Scheduling transmission line use

• Coordinating with other system operators who share transmission systems

It is important to remember that energy supply and demand must always match.  If people used the same amount of energy at the same time every day, balancing these would be easy.  However, there are many factors that impact energy load, which is the term for cumulative energy demand at any given point in time.  These include weather, time of day, economic activity, and current events.  Since one of the ISO’s main goals is to provide reliable electricity, ISO’s make very educated energy forecasts for the next day.  However, it’s impossible to predict the next day’s load exactly.  For this reason, they operate a dual settlement market design also called a two-stage market, which consists of the day-ahead market and the real-time market.

The Day-ahead (DA) Market and Economic Dispatch

In the day ahead (DA) market, once the ISO has forecasted the next day’s load, they have to schedule generation.  Each generator tells the ISO how much power they are willing and able to produce the next day, and what they will charge for each megawatt-hour (MWh).  

In addition to ensuring that the supply of electricity is reliable, the ISO’s other main function is to ensure that the cost of electricity is minimized. They do this by utilizing the cheapest feasible generation providers first, only taking the more expensive generator’s offers when necessary to meet the forecasted load. The last generator scheduled, with the most expensive price, sets the clearing price for every MWh provided by all the generators. This is the system of economic dispatch, where the system operator determines which generators they are going to need at which times of the day.

The Real-time (RT) Market

The real-time (RT) market is the market where the ISO meets the actual demand, in real-time, by bringing generators on and offline.  The changes to the day-ahead forecast and generation schedule can be made an hour to five minutes in advance of when the change in the generation is required.  Because the demand for electricity is variable, the real-time market can be significantly more volatile than the day-ahead market.  

In principle, generation in the real-time market is scheduled in the same way as the day-ahead.  Market participants continually update unit offers based on the weather and necessary maintenance, and the ISO accepts the lowest offers first until demand is met.  

In practice, the real-time market is slightly more complicated.  Some types of generators have faster ramp rates than others (meaning they can start up faster), and renewable generators’ energy production cannot be scheduled.  (We’ll discuss the nuances of these different generators in our next post).  

Transmission Constraints & Pricing Signals

Another problem is that transmission lines can only transport so much power at any given time.  If there is too much power flowing across a transmission line, it can burn out.  Obviously, the ISO and other market participants don’t want this to happen, so there are controls to make sure that it doesn’t.  These include directing power to other transmission lines and using different generators than might be used otherwise.  When there is the risk of too much power flowing across a transmission line, it is called a transmission constraint.  

The ISO controls real-time generation through pricing signals as a way to mitigate this constraint risk.  ISO’s send pricing signals to different pricing nodes.  Pricing nodes are specific locations on the grid linked to a component, like generation, load, or transmission.  If the ISO needs a generator to start producing more power, it will increase the price at that pricing node.  If the ISO needs a generator to produce less power, it will decrease the price at that pricing node.

Locational Marginal Pricing (LMP)

The result of economic dispatch and pricing signals is Locational Marginal Pricing (LMP).  There are different prices for each node on the grid, based upon the clearing price at each specific node on the grid and the cost of producing the next MW of energy.  The cost of producing the next MW of energy is dependent upon the actual cost of generating that MW, but also upon the losses that occur on the transmission line, and the impact of congestion on transmission lines.

Ancillary Service and Capacity Markets

Lastly, since one of the ISOs' main goals is to provide reliable electricity, they plan backup generation for times when the load is significantly greater than forecasted, or transmission lines are particularly congested. They ensure this reliability through the ancillary service and capacity markets. In the ancillary service market, generators can offer to hold back X MW of power for a certain price, to be used if necessary. These reserves are normally spinning reserves or reserves that can be ramped up (or down) quickly. 

Capacity markets are used to make sure that there will be enough generation available for the coming years.  In a capacity auction, generators offer to remain operational for a set period of time for a fee.  This fee is called a capacity payment. 

Look out for our upcoming posts on generation and market participants, in the meantime we hope that you now have an understanding of how ISOs function using the DA, RT, ancillary service, and capacity markets!

Next Steps:

For more information on the terms in this blog post, check out the Yes Energy Glossary.

Resources we found helpful when putting together Power Markets 101 are available here.

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