Energy trading efficiency in the US Midcontinent electricity markets

Highlights: • Document trading inefficiency in the US Midcontinent electricity markets. • Develop energy price difference regressions that are interconnected. • Test the market integration hypothesis and efficient market hypothesis. • Use hourly price data to assess inter-day and inter-zonal price differences. • Show trading efficiency requires forecast and scheduling accuracy. Efficient trading under wholesale market competition reduces an electric grid's energy costs for meeting time- and location-dependent demands. We analyse energy trading efficiency by estimating three newly developed sets of energy price difference regressions interconnected by their common root of energy price level regressions. Using a sample of ~ 0.6 million hourly observations for 01/01/2014 to 10/31/2020, our estimation documents energy trading efficiency of the 10 local resource zones across 15 American states administered by the Midcontinent Independent System Operator (MISO). We find MISO's zonal energy markets integrated across space (zone j vs. zone k for j ≠ k) and time (day-ahead market vs. real-time market). However, these markets exhibit inter-day energy prices differences that move with the fundamental drivers (e.g., day-ahead forecasts for natural gas price and zonal wind generation) of day-ahead energy prices and their forecast errors. Inter-zonal day-ahead energy price differences move with the fundamental drivers and their zonal variations. Inter-zonal real-time energy price differences increase with inter-zonal day-ahead energy price differences and depend on zonal variations of the fundamental drivers' forecast errors. Our empirics yield two important policy implications. First, enhancing inter-day trading efficiency requires accuracy improvements in (a) day-ahead forecasts for natural gas price, zonal load levels, and zonal wind generation, and (b) day-ahead scheduling of zonal nuclear and must-run generation. Second, improving inter-zonal trading efficiency requires mitigating inter-zonal transmission congestion via transmission capacity expansion, generation investment and demand reduction in a load pocket, and virtual bidding for inter-zonal energy price differences.