Timothy Cason, Purdue University Charles Plott, Caltech

The Impact of Buyer Information Disclosure on Electricity

Procurement: A Cautionary Tale about Transparency in Markets

Timothy Cason, Purdue UniversityCharles Plott, Caltech

Is more information always better?

• Price discovery in markets leads to aggregation of diverse, private information

• Mandating private information disclosure, for transparency, can affect exchange surplus distribution

• These experiments demonstrate that the disclosing side is disadvantaged – particularly in environments with a wide range

of competitive prices, and in periods when supplies are “tight”

Policy Application: California Electricity Procurement

• California Investor-Owned Utilities (IOUs) procure about two-thirds of their energy requirements– Spot markets, short- and medium-term contracts

• Their suppliers, third-party intervenors (including ratepayer advocates) and the California Energy Commission (CEC) have demanded more info disclosure from IOUs– E.g., short- and long-term planning data, price,

forecast and availability data (including their “residual net short” position)

Whose interests are being served?

• The CEC and ratepayer advocates should be interested in the IOUs’ procurement costs, if their goal is to reduce prices paid for electricity by consumers in the state– The suppliers can look out for themselves,

and they clearly have a vested interest in obtaining information from their bargaining opponent

– IOUs also care about providing (long-term) incentives for suppliers to build more capacity and in attracting entry into electricity supply

The Role of Experimental Markets

• These are proposed new regulations, so without experimental tests the debate would be limited to the theoretical domain

• Empirical evidence has an important role to play in this type of policy decision

• Experiments have their limitations, but in applications like this they provide one of the only sources of empirical insight– It is difficult to identify comparable non-

California environments, with and without similar info disclosure regulations

Experiment #1 – Negotiated Price Markets (Economic Inquiry, Oct. ’05)• Representing short-term and medium-term

contracts– Decentralized negotiation between buyers

and sellers

• Private, computerized negotiations, without even public price information

• Does equilibrium emerge? (Yes)• What are the implications of revealing

bounds on underlying (induced) demand values or supply costs?

Orders are placed here. Choice of Market allows order to go to specific agent.

Orders from experimenter similar to redemption values or private costs appear here.

Orders from other agents appear here.

Own outstanding orders sent to other agents shown here

history and information at this link.

Results Summary

• When one side of the market (e.g., buyers) must reveal information about their trading interests, the other side (e.g., sellers) obtain a pricing advantage– Particularly during the equilibration phase

• Prices do not adjust to reflect cost reductions when only sellers are aware of the underlying change in market conditions

Supply and Demand for Design B

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Median Transaction Prices by Session, Design B

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e Sellers Informed 040213Sellers Informed 040214Sellers Informed 040215cBuyers Informed 040215aBuyers Informed 040215bUpper CELower CE

Sellers Info-Advantaged in Blue, Buyers Info-Advantaged in Red

Median Transaction Prices by Session, Design E

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Sellers Informed 040308Sellers Informed 040309Upper CELower CE

Supply shift

Demand shift

Experiment #2 – Auctions with Quantity Information Disclosed

• Our critics suggested that electricity procurement is more “akin to an auction process” with discriminative pricing rules

• IOUs viewed the info they were being asked to disclose as their residual net short (RNS) position: i.e., their quantity demanded in such an auction representation

• The implications for transaction prices can also be assessed in this very different, centralized auction trading institution

Important Features of IOUs’ Demand for Capacity

The key factor is the net short demand. That is the quantity beyond which demand for capacity drops off.

The company will pay a premium to acquire power capacity to cover its net short demand. After that level additional capacity has much less value.

The key factor is the net short demand. That is the quantity beyond which demand for capacity drops off.

The company will pay a premium to acquire power capacity to cover its net short demand. After that level additional capacity has much less value.

Slight decreases in supply that cause a shortfall in meeting the renewable net short demand can cause sharp and dramatic increases in the competitive equilibrium price. Such spikes have been experienced before in the California markets.

Slight decreases in supply that cause a shortfall in meeting the renewable net short demand can cause sharp and dramatic increases in the competitive equilibrium price. Such spikes have been experienced before in the California markets.

KWh Capacity Demand

Price of Capacity

$/kWh

Supply Level 1

Supply Level 2

Supply Level 3

Supply beyond net short has very little influence on the competitive equilibrium price.

Supply beyond net short has very little influence on the competitive equilibrium price.

Value of Capacity

The Residual Net Short

The concept of a competitive equilibrium price illustrates the information contained in the net short

concept.

Market Demand and Supply 1

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100110120130140150160170180190200210220230240250

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MARKET SUPPLY

Demand Price A

Demand Price B

Demand Price C

Demand Price D

Demand Price E

Demand Price F

Note:Unlikepreviousexperiment,demandvalues areunknownto sellers.Instead, weexamine the impactof revealingquantitydemanded(RNS).

Offer “markups” over cost cannot be sensitive to undisclosed RNS

Median Offer Schedules During Final 21 Periods (2 No Disclosure Sessions Pooled)

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CostMedian Offer: Q=4 Not DisclosedMedian Offer: Q=9 Not DisclosedMedian Offer: Q=10 Not DisclosedMedian Offer: Q=11 Not DisclosedMedian Offer: Q=12 Not DisclosedMedian Offer: Q=13 Not Disclosed

When the net demand is not disclosed it has no impact on the offers tendered by sellers at auction. When net demand is low the offers are similar to offers when net demand is high.

Announcement of Net Short Position and Supplier’s Understanding of the General Properties of Market Demand and Supply Coordinates Strategies Among Suppliers to Create Upward

Pressures on Prices in the Marketplace

KWh Capacity Power

Price of Capacity

$/kWh

Net Short Demand for Capacity

Announced Net Short Procurement large

Competitive Supply function.

Announced Net Sort Procurement small

Small net short signals abundant supply relative to planned procurement (demand) and thus aggressive selling behavior by all suppliers. Offers are low.

Large net short means tight supply relative to planned procurement (demand) and thus less aggressive competition by all suppliers. Offers are high.

Offer markups over cost rise as announced RNS signals market tightness

Median Offer Schedules During Final 21 Periods (2 Disclosure Sessions Pooled): The Higher is the Net Demand Disclosed The Higher Will Be the Asking Prices Of Sellers At Procurement Auction

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MargCost/CompSupplyMedian Offer: Q=4 DisclosedMedian Offer: Q=9 DisclosedMedian Offer: Q=10 DisclosedMedian Offer: Q=11 DisclosedMedian Offer: Q=12 DisclosedMedian Offer: Q=13 Disclosed

The sell offers tendered at auction from which the buyer must choose increase at every level according to the size of the net demand disclosed. If net demand is very low, suppliers offer at low prices. If net demand is high then the prices offered by sellers uniformly and spontaneously increase.

Disclosed net demand of 4 means that the buyer will by few. The resulting offers by the sellers are low, driven by the competition they expect.

Disclosed net demand of 13 means that the buyer will purchase many. The sellers all increase asking prices on the knowledge that others will do the same.

Comparison of aggregate offer schedules with and without disclosure

Median Offer Schedules During Final 21 Periods: Comparison of Disclosed Net Demand and Non Disclosed Net Demand At Procurement Auction.

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MargCost/CompSupplyMedian Offer: Q=4 DisclosedMedian Offer: Q=13 DisclosedMedian Offer: Q=4 Not DisclosedMedian Offer: Q=9 Not DisclosedMedian Offer: Q=10 Not DisclosedMedian Offer: Q=11 Not DisclosedMedian Offer: Q=12 Not DisclosedMedian Offer: Q=13 Not Disclosed

Disclosed net demand of 4 means that the buyer will purchase only a small amount(supply abundant). The resulting offers by the sellers are low, driven by the competition they expect.

Disclosed net demand of 13 means that the buyer will purchase many (the market is tight). The sellers all increase asking prices on the knowledge that others will do the same. The buyer is forced to pay more.

Offers by sellers under conditions of no disclosure of residual net short (net demand).

Similar effects observed for individual offer functions

Median Offer Functions During Final 21 Periods (No Disclosure)

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Cost

Median Offer: Q=4 NotDisclosed






Offers are the same regardless of net short if net short is not disclosed.

cost

Median Individual Offer Functions During Final 21 Periods (Net Short Disclosed Sessions Pooled)

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Median Offer: Q=4 Disclosed






CostAs disclosed net short goes up the asking prices go up. This occurs even though costs are constant throughout.

cost

RNS revelation raises transaction prices except when supplies are abundant

Average Transaction Price Comparison: Auctions with Residual Net Short Disclosure Compared with Auctions with No Residual Net Short Disclosure

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Pooled Ave. Trans. Price--No Disclosure

Pooled Ave. Trans. Price--Disclosure

Auctions in which Residual Net Short is small: supplies abundant.

Supplies are tight.

RNS disclosure raises procurement costs

Total Procurement Cost

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Net Short

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no disclosure of RNS disclosure of RNS Percent Cost Increase

The percentage increase of excess cost is constant. This means that the excess cost increases was exponential with the growth of the disclosed Net Short.

The gap of excess procurement cost grew exponentially.

Conclusion• These experiments span a range of

plausible representations of this market– Decentralized private negotiations with value

or cost disclosure– Centralized auctions with quantity disclosure

• As long as the principles of supply and demand operate both in the laboratory and in the field, this empirical evidence shifts the burden of proof onto suppliers who claim disclosure benefits Cal. consumers

Extensions

• We believe the disclosure impacts in the auction arise from coordination among sellers, not market power or tacit collusion– This can be verified with auctions with a larger

number of sellers

• Disclosure proponents have claimed that this info is useful for attracting entry– But do the harmful cost impacts of disclosure

overwhelm the possible good of additional entry?

• If disclosure is so beneficial, why must IOUs be forced to adopt it?

Documents

Timothy Cason, Purdue University Charles Plott, Caltech