Using Supply Functions for Offering Generation into an Electricity Market

In this paper, we study strategies for generators making offers into electricity markets in circumstances where demand is unknown in advance. We concentrate on a model with smooth supply functions and derive conditions under which a single supply function can represent an optimal response to the offers of the other market participants over a range of demands. In order to apply this approach in practice, it may be necessary to approximate the supply functions of other players. We derive bounds on the loss in revenue that occurs in comparison with the exact supply function response, when a generator uses an approximation both for its own supply function and for the supply functions of other players. We also demonstrate the existence of symmetric supply-function equilibria.