The Central Electricity Regulatory Commission (CERC) has issued a discussion paper on pricing methodology in the power trading market in the wake of price spikes and unprecedented demand in the last year.

The Commission has invited suggestions from all the stakeholders.

The volume of electricity transacted through the power exchanges has increased significantly over the years. Though the overall demand-supply situation in the power sector generally gets reflected in the prices discovered through the power exchanges, some price spikes were witnessed in October 2021.

In March 2022, an unprecedented demand was observed without the increase in supply, and the prices in both the Day-Ahead Market (DAM) and the Real-Time Market (RTM) remained significantly higher for a consistent period, which led to regulatory intervention.

Short-term power market

According to the discussion paper, power supply in India is predominantly tied up in long-term contracts. With 87%, long-term transactions dominate the share of total electricity transactions in the country.

Of the total short-term transactions, the volume transacted through the power exchanges was the highest at 54%, followed by bilateral transactions through traders at 21%, transactions through DSM at 14%, and bilateral transactions between distribution companies (DISCOMs) at 11%.

Most of the volume transacted through the exchanges is being transacted in the DAM (including G-DAM), followed by RTM and Term-Ahead Market (TAM).

Over-the-counter market

The discussion paper refers to the over-the-counter (OTC) market as a key avenue for electricity trading. The Commission made provisions for an OTC platform in the CERC Power Market Regulations 2021. The objectives of the OTC platform are to:

• Provide a platform with the information of potential buyers and sellers of electricity
• Maintain a repository of data of buyers and sellers and provide such data to participants
• Provide such services as advanced data analysis tools to market participants.

Pricing principles at power exchanges

Three power exchanges are operating in India. While the Indian Energy Exchange (IEX) and Power Exchange India (PXIL) commenced operations in 2008, the Hindustan Power Exchange (HPX) started operating in July 2022.

Based on the pricing principle, the contracts are broadly categorized into two types:

• Collective Transactions: The price is discovered through anonymous and simultaneous competitive bidding by the buyers and sellers.
• Continuous Transactions: The buy and sell bids are matched continuously with price-time priority. For a specific contract, the seller with the minimum quote and the buyer with the maximum quote are considered the best seller and best buyer.

Pricing Methodology

The mechanism for collective transactions leads to the discovery of a uniform market clearing price (UMCP).

However, due to a uniform price for all market participants who are cleared, all sellers who bid lower prices get an extra profit (difference between the UMCP and the bid price). Owing to the recent events in the electricity market, with prices reaching alarming levels, concerns have been raised that some sellers are making huge gains due to this market auction design.

Uniform Pricing versus Pay as Bid

The difference between the two lies in the final price paid to the cleared sellers.

• Uniform Pricing: All the cleared sellers receive the same price, which is the market clearing price. As observed, the market cleared price is the bid price of the most expensive seller cleared to meet demand.
• Pay as Bid: Prices paid to the cleared sellers are based on the sell bid offered by the respective seller. Each seller is paid a different price tied to the bid offered. These prices do not depend on the price of the most expensive seller.

Supply shortage and uniform pricing

The CERC discussion paper says that UMCP is the most commonly adopted pricing methodology globally, but concerns have been raised regarding the efficacy of this market design.

In March 2022, India witnessed a period of demand surge coupled with a supply shortage. On the other hand, the increase in the supply has been limited. The situation has been further aggravated due to geo-political factors affecting the fuel supply and certain domestic supply constraints.

The increased prices of fuel, particularly imported coal, led to a significant increase in the marginal costs of the margin-setting generators of the market. This, along with a surge in demand, led to an abnormally high market clearing price, touching ₹20 (~$0.24)/kWh.

Regulatory intervention

On April 1, 2022, the Commission directed the power exchanges to re-design, with immediate effect, the bidding software so that members can submit their bids in the price range of ₹0/kWh to ₹12 (~$0.15)/kWh for DAM and RTM.

As a result of setting the ceiling price at ₹12 (~$0.15)/kWh for DAM and RTM, the market clearing price in DAM and RTM was frequently hitting the ceiling price with the volume of buy bids greater than the volume of sell bids.

The Commission felt the need for a uniform price ceiling in all segments so that there was no shift in supply volume from one segment of the power exchanges to another segment induced by differential ceiling prices in the market segments. On May 6, 2022, the Commission directed the power exchanges to revise the ceiling price of all segments to ₹12 (~$0.15)/kWh.

CERC, in its discussion paper, states that intervention in the market is justified when the price spike results from market power or misuse of market position by suppliers.

However, if the price rise is caused by demand behavior, there is a need to correct the demand side and not further scuttle the supply side.

The other school of thought believes India cannot afford very high price caps or the standard scarcity pricing framework.

While the imposition of a price cap ensures that the market prices remain reasonable and within bounds, the generators with variable costs higher than the price cap tend to go out of the market. Different countries have proposed segmenting the market to attract more supply.

In August this year, CERC granted time for one more year from August 15, 2022, for power exchanges to align their clearing and settlement system to the Payment and Settlement Systems Act (PSSA) 2007.