On Pricing of Capacity in Power Market

Capacity mechanisms are adopted around the world to guarantee appropriate level of investment in electricity generation capacity. We discuss these approaches and analyze the capacity pricing mechanisms. We apply "conjectured supply function" and "fulfillment equilibrium" approach and show that by compensating capacity, energy price is equal to the marginal cost and social welfare increases. We also find that consumers, paying capacity compensation at progressive rate on capacity, are better off than suppliers and social welfare under the progressive rate on capacity is better than that under the degressive rate when electricity markets are close to Cournot competition