Strategic Demand Response to Dynamic Pricing: A Lab Experiment for the Electricity Market

Abstract

Despite the efforts of restructuring power markets over the last decades, the lack of demand response in the retail electricity markets remains a significant concern. Possible demand response would help to reduce prices and volatility by better matching supply and demand through improved price signals. In this paper we develop a laboratory tool to experimentally investigate the demand response in the electricity market. The baseline treatment constitutes a two-period ‘wait-or-buy’ game with an exogenous first period, an automated supplier, and twenty subject buyers. While the seller offers a fixed number of a product in the market, consumers decide on purchasing the product immediately or waiting until the next period, taking (i) price uncertainty and (ii) inventory risk into account. This treatment captures demand response in the retail market with scarce products. We design an additional treatment by removing the inventory constraint and introducing a devaluation rule, where consumers only bear the price risk – thus mimicking the demand response in the electricity market. We find that in both retail and electricity market treatments consumers play on average the equilibrium predictions and buy strategically. However, there are systematic deviations from rationality in both settings, i.e., consumers buy too soon or wait too long.

Keywords: Demand Response, Electricity, Dynamic Pricing, Strategic Behavior

JEL Classification: C92, D01, D81, M11, Q31