SUPPLY FUNCTION EQUILIBRIA AND THE DANGER OF TACIT COLLUSION - THE CASE OF SPOT MARKETS FOR ELECTRICITY

Because of the special nature of electricity (instantaneous production and consumption, quick and partly stochastic fluctuations of demand), the production decisions on a hypothetical spot market have to be automated. We model this automation by assuming that the instruments of competition are the supply functions of the producers. Three oligopoly models (games among the producers) are investigated and, in every case, a continuum of solutions is found. These solutions allow for tacit collusion among the producers. When they select the symmetric solution with the highest profits, then an increasing number of producers does not necessarily imply that the aggregate profits converge to zero. When the customers have to pay constant prices then joint profit maximization (the monopoly solution) is an equilibrium. When the consumers have to pay spot prices, with an increasing number of producers, prices converge to marginal costs. This convergence is slow, however, if the fluctuations of demand are small.