A Hybrid Simulation Model for Electricity Spot Price in a Deregulated Market

Prior to the deregulation trend, electricity prices were highly regulated and were usually fairly predictable generators and wholesalers knew their production costs and revenues, and consumers knew their electricity costs. However, deregulation has caused electricity to become the most volatile of the commodities. Not only is the demand for electricity highly variable, but the inability to store electricity in any appreciable quantity requires electricity to be consumed as soon as it is generated. The supply of electricity cannot shift as quickly as the demand. The result is an economic certainty when demand increases quickly, the price must respond, and as a result, price spikes occur that are orders of magnitude higher than the base electricity price. A robust and realistic model for the spot price is required for any type of risk management or investment planning in volatile markets. The model developed here is a hybrid of the top down data driven approach common in traditional financial applications and the bottom up system driven approach common to regulated electricity markets. The advantage of this innovative approach is that it incorporates the primary system drivers, and clearly illustrates the effects of these drivers on terminal prices. In particular, a realistic system-based model of electricity prices is useful in determining price sensitivity to operational characteristics. As an illustration, this paper examines the effect of altering repair times on the frequency of prices spikes in a deregulated market.