Understanding the Stochastics of Nodal Prices: Price Processes in a Constrained Network

Network congestion in competitive electricity markets may be managed by geographically differentiated nodal prices. The stochastics of an unconstrained equilibrium price reflect the underlying fundamentals of demand and supply. The stochastics of nodal prices in addition reflect the consequences of grid congestion. This paper demonstrates how a static three-node model may be combined with dynamic modelling of fundamental parameters, giving stochastic nodal price processes consistent with the underlying grid. These price processes may be employed in analysing production, hedging, and investment decisions under uncertainty.