Incentive Compatibility with Uplift Payments: Investigating Pricing Schemes to Support Electricity Market Development in China

Abstract

Inherent intermittency of renewable fuels implies that the energy transition must also be supported from the current energy mix. However, conditions for price formation processes to adequately compensate conventional and flexible generation assets in electricity markets remain unclear. Applying unit commitment framework to data of a Chinese electricity market, we examine outcomes of adopting conventional marginal pricing (LMP), restricted convex primal pricing (R-CPP), and approximate convex primal pricing (A-CPP), while accounting for energy storage. We find that (1) although out-of-market payments can adequately remunerate thermal generators, such payments may increase the operational cost of energy storage, (2) losses incurred by storage operators under uplift payments could be avoided depending on the pricing scheme adopted and the nature and efficiency of generators on the margin, (3) in markets with significant storage discharge, convex hull pricing may result in higher uplift payments than conventional marginal pricing, especially when the peak-to-trough difference in electricity prices is large, and (4) market outcomes are more sensitive to fuel prices (especially under R-CPP) than carbon prices and emissions certificate allocations. Our results can help regulatory bodies in China to better understand the role of price formation processes in achieving the goals of ongoing electricity market reforms.

Keywords: Non-convex electricity markets, Uplift payments, Conventional marginal pricing, Convex hull pricing, China