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Abstract
The methodology used in the pricing of electrical energy is a fundamental characteristic of electricity market design.
In deregulated North American power systems the utilization of locational marginal pricing is the dominant approach
to pricing electrical energy. Locational marginal prices (LMPs), which are spatially and temporally distinguished nodal
prices based upon short-run marginal costs, reflect economic and physical realities of the power system as well as operating
constraints. In addition, LMPs can be used to ascertain transmission congestion costs and are often included in ancillary
service market clearing or settlement calculations. It is therefore requisite to understand the fundamentals of LMPs to be
able to analyze deregulated North American power system economics. In this paper, the concept, calculation, utilization
and practical application of LMPs as well as a thorough educational illustration are provided.
1 Introduction
The North American power system served approximately
4,926 TWh of electrical energy to customers in the U. S.,
Canada and Mexico in 2006 [1]. In the U. S. and Canada,
the majority of the load is procured through market transactions in the geographic footprint of Regional Transmission Organizations (RTOs), which are independent,
revenue-neutral entities charged with, among other responsibilities, maintaining system reliability and market oversight [2]. Market designs differ amongst RTOs; however,
a characteristic common to many is the utilization of locational marginal prices (LMPs) for electrical energy pricing [3].
Locational marginal pricing, which is based on the shortrun marginal cost of supplying energy, was developed in
the 1980s [4, 5, 6] and has grown to be the dominant
method of pricing energy in electricity markets in North
America that operate under the auspices of an RTO [7, 3,
8, 9, 2]. The use of LMPs has grown because the physical constraints of the system and economic realities are
accurately represented. The resulting LMPs can be readily
utilized to price transmission and to determine congestion
costs. This paper formulates the concept of LMPs in an
educational manner and provides details on their practical
calculation and utilization in North American power systems.
Currently, nodal LMPs are utilized in four North America
RTOs: Midwest Independent System Operator (MISO),
New England RTO, New York ISO (NYISO) and the
Pennsylvania-Jersey-Maryland Interconnection (PJM) [2].
In addition, LMPs are included in the new market designs
2 Concept
The concept of locational marginal pricing is to assign the
price of energy based on the short-run marginal cost of
supply. In so doing, economic signals for system operation are provided, including costs of congestion. An analogous formulation of LMP calculation for reactive power
is possible; however, real power is the focus of this paper
as reactive power and other component costs of supplying
energy are compensated in ancillary service markets and
market settlement procedures [3, 6].
The short-run marginal cost at a node is equal to the change
in optimal economic cost associated with supplying an
additional increment of load at that node. This value is
readily available from the Lagrangian multiplier associated
with the nodal real power balance equation at the solution
to the N -node Optimal Power Flow (OPF) problem:
min {f (PG , PD )}
(1)
where
f (PG , PD ) =
N
X
CG,i (PG,i )
i=1
N
X
CD,i (PD,i )
(2)
i=1
(3)
h(x) 0
(4)
(5)
where p,j is the Lagrangian multiplier at the optimal solution to (1) associated with the real power balance equation
at node j. Obtaining the LMP from the OPF implicitly
includes voltage, transmission and generation constraints
that affect the economics of the delivery of energy in a
transparent fashion.
3 Practical Calculation
Solving (1) for each market period is not practical in most
market applications due to computational and implemen-
K
X
k k,j
(6)
k=1
where s is the marginal price of generation at the reference node, K is the number of branches, and k is the
shadow price of the congestion of branch k. Conceptually,
the shadow price, k , is the change in cost due to an incremental relaxation of the constraint on branch k. The Injection Shift Factor (ISF) [11], k,j , is the fraction of real
power that flows on branch k due to a unit production of
power at node j and consumption of power at the reference
node under dc assumptions. A derivation of ISF calculation is reserved in the Appendix. The sum of products of
k and k,j is the congestion cost.
The variables s and k are Lagrangian multipliers whose
values are determined from solving an incremental linear
optimization around a given operating point. The operating point in terms of real power produced, PG,j , and
consumed, PD,j , at each node j is based upon the scheduled dispatch and load in the day-ahead market and is input from a state-estimator in balancing markets. Nodes
without generation or without load have the corresponding
PG,j and PD,j values set equal to zero.
The objective of the incremental optimization in the practical LMP calculation of an N -node system is:
(N
)
N
X
X
min
OG,i (PG,i )
OD,i (PD,i )
(7)
i=1
i=1
OG,i (PG,i ) and OD,i (PD,i ) are the offers and bids associated with the changes, respectively. The hypothetical
changes to power production and consumption must respect the power balance equation, generator and dispatchable load limits:
N
X
PG,i
N
X
PD,i = 0
(8)
min
max
PG,j
PG,j PG,j
j (1, . . . , N )
(9)
i=1
min
PD,j
i=1
PD,j
max
PD,j
j (1, . . . , N )
N
X
12
0
1
1
1
i=1
N
X
(10)
i=1
(11)
4 Educational Illustration
A four-bus study system is used to demonstrate the practical calculation of LMP under two scenarios: Unconstrained Case and Constrained Case. It is shown that in the
Unconstrained Case, the only non-zero component comprising the LMP is the marginal generation price and hence
the LMPs are uniform. In the Constrained Case, congestion in the network results in non-zero and non-uniform
congestions costs and there is differentiation in LMP. The
illustration also shows that the definition of the LMP as the
cost to serve an additional increment of demand at each
node is equivalent to (6) if linear generator energy offer
functions are utilized.
c1
($/MW)
20
25
30
P max
(MW)
500
200
200
P min
(MW)
0
0
0
200 MW
100 MW
3 0 MW
300 MW
100 MW
100 MW
4
0 MW
0 MW
200 MW
8,000
2
20
100
0
3
20
0
300
0
4
20
0
0
0
Total
8,000
100 MW
300 MW
50 MW
300 MW
100 MW
50 MW
4
0 MW
4
0 MW
3 150 MW
3 0 MW
100 MW
1 MW 100 MW
100 MW
Charge
($)
0
2,000
6,000
0
8,000
0 MW
0 MW
100 MW
100 MW
50 MW
3 151 MW
301 MW
50 MW
4
0 MW
0 MW
101 MW
100 MW
3 149 MW
300 MW
51 MW
50 MW
4
0 MW
1 MW
5,000
2
20
100
0
3
25
150
300
3,750
4
15
0
0
0
Total
8,750
Charge
($)
0
2,000
7,500
0
9,500
5 Conclusions
Locational marginal pricing is a powerful and elegant tool
that is commonly used in electricity markets in the U. S.
and Canada. The method of assigning nodal prices based
upon short-run marginal costs, which is interpreted as the
cost of serving the next increment of demand at each node
in the system, is intuitive and adequately reflects system
constraints and economics. Based upon this definition, the
LMP at a node is equal to the Lagrangian multiplier associated with the real power balance equation at that node.
In practice however, a simplified dc model is employed
and the LMP can be determined from an incremental linear program by adding the offer-based marginal generation
cost at the reference node with congestion costs, as shown
in this paper.
The calculation of LMPs for a four-bus study system for
constrained and unconstrained operation illustrated an intuitive method for calculating LMPs and demonstrated the
utility in LMPs to determine congestion costs. The congestion costs are determined from the differences in LMPs
between two nodes and are used to economically manage
congestion through the use of financial instruments such as
financial transmission rights.
The use of Injection Shift Factors (ISFs) is a computationally efficient method of determining the impact of changes
in generation or load on branch power flow under dc assumptions.
In accordance with the linear problem formulation, the total real power flowing on any branch under dc assumptions
is found by:
F = H
(12)
where F is a vector of branch power flow, H is a matrix
of coefficients that relate the node voltage angles, , across
a branch to the power flowing on that branch. The elements of H are determined from the bus impedance matrix. Since there is a linear relationship between the bus
(13)
F1
1,1 1,N
Pnet,1
.. ..
.. ..
(14)
. = .
. .
FK
1,N
K,N
Pnet,N
References
[1] Monthly energy statistics, International Energy
Agency, Paris, France, Sept. 2007.
[2] Federal
Energy
Regulatory
Commission.
(2007,
Dec.)
Regional
Transmission Organizations (RTO)/Independent System
Operators
(ISO).
[Online].
Available: http://www.ferc.gov/industries/electric/indusact/rto.asp
[3] R. Baldick, U. Helman, B. Hobbs, and R. ONeill,
Design of efficient generation markets, Proceedings of the IEEE, vol. 93, no. 11, pp. 19982012,
Nov. 2005.