EPGDIB (2019-20)

Early Bird System Analysis Business Economics

Assignment on Analysis of Case Study

The Early Bird - Electric Power Load Dispatching

Submitted to : Prof. Dr. D. Sunitha Raju

EPGDIB 2019-20, Section - A, Group: 1

Group Members:

Nitin Kumar Garg (6)

Mohit Agarwal (11)
Chanchal Kumar Maloo (23)
Anjanai Kunal (25)

Question:
What is the basis for using marginal cost for supply decisions?
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Early Bird System Analysis Business Economics

Answer:

Marginal cost is the change in total costs caused by a change in the quantity of product
per unit of time.

The marginal cost equations, together with the transmission loss coefficients as
described, are the nucleus for Southern Company’s Early Bird Power Load
Dispatching for control of power generation and transmission.

Marginal cost is often also called the opportunity cost associated with producing an extra
unit, in the power generation industry. The capacity to supply electricity at short notice using
additional capacity has an opportunity cost associated to it.

If the peaking plant were not available, some consumers would have to go without power
when peak demands are placed upon the system. The opportunity cost of the peaking
plant is thus the value of the opportunities that would be forgone if the plant were not
available, based on what consumers will be willing to pay for alternate sources of electricity.

The relationship between supply and production costs will depend on the level of demand
and the way costs vary with output.

In electricity markets, demand has very low price elasticity as depicted in the graph below.

Suppose, to begin with, that current demand (D1 in the graph) is less than the available
generating capacity

If Southern Power Company can earn sufficient income to cover their marginal „operating‟
costs (the variable costs like, fuel and labour costs of producing one more unit of electricity)
they will be willing to expand output. Supplying output at that price makes little contribution
to the overhead costs (particularly the capital costs), if the capital is already in place any
contribution is worthwhile. On the other hand, if total demand equals current generating
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Early Bird System Analysis Business Economics

capacity (D2 in the graph), the price needed to ration demand to the available capacity will
exceed marginal costs, due to a spike in the marginal operating costs.

[Ref. “Marginal Costs and Prices in the Electricity Industry” by Peter Hartley and Alan Moran,
June 2000]

If the expected present value, based on operating mix of individual plant of hydro,
thermal and nuclear generating units with the motive to minimize fuel costs, is enough to
pay for additional peaking demand, the supply should be generated.

Continuous marginal cost is the rate of change in the total costs as production
varies continuously, based on which we calculate our applicable MC and can be
calculated as the first derivative of the total cost function:

MC = dTC/dQ (continuous marginal cost)

However, given that in the short run, variation in production can only be attributed to
variations in variable inputs, it is the same as measuring the variation in the
discrete marginal cost by the variation observed in the total costs or in the total
variable cost. Thus:

MC = dTVC/dQ (continuous marginal costs in the short run) as in the case of D1 above

When, during the course of a day, the demand for electricity picks up, the Early Bird system
is programmed to compare the marginal costs of generation at each on-line unit and
then to send impulses to raise the electricity output of the unit (or units) where MC is
lowest.

If it is determined that it would be more economical for Southern to buy a “block” of

electricity from an adjacent company than to generate the electricity needed itself
(because at the forecasted generating rates the other company will have lower MC than
Southern), then an order is placed for that unit at a price set forth in the interchange
agreement between the two companies. On the other hand, if Southern’s marginal costs are
lower than those of its neighbors, then it may agree to sell a block.

General inference to these points can be summarized as,

 P charged of each extra power unit generated > MC => Increase Supply or Sell
Block of Unit

 P charged of each extra power unit generated < MC => Decrease/Avoid More
Supply or Buy lower MC block from neighbors

The easiest way of determining the point at which profits are maximized is to compare total
revenue (TR) and total costs (TC) or to equal marginal revenue (MR) and marginal cost (MC).
The firm maximizes profit by selling a quantity (Q) for which MC = P.
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Early Bird System Analysis Business Economics

Let us correlate this with the below mentioned Graph:

Whether the firm realizes a profit or a loss depends on the relationship between price
(P) and average total cost (ATC) at the intersection of MR and MC. It is also defined
by the internal policy of whether it seeks to maximize profit or minimize losses.

The quantities to produce (Qd, Qc, Qb and Qa) for each different level of prices
(Pd, Pc , Pb and Pa) are determined as: P=MC

 The point (Qd, Pd) maximizes profit as price Pd exceeds ATC.

 The point (Qc, Pc) a break-even point, profit equals zero. The price Pc, equals ATC. A
loss minimizing firm will seek to come as close to this point as possible.

 The point (Qb, Pb) minimizes its short-term losses as price Pb is less than ATC but
higher than AVC. So, the TFC are paid and the TVC are partially recovered.

 The point (Qa, Pa) can be referred to as a shutdown point, negative profit equals TFC
or Pa =AVC.

Conclusion:

Marignal cost is useful for deriving the supply curve for the firm in the short run.
Hence a Profit- Maximizing firm's Supply curve is its rising Marginal Cost curve.