Pricing and Efficiency in ‘‘Lumpy’’ Energy Markets An unavoidable characteristic of electricity markets is their lumpiness; generation and transmission capacity additions often come in inconvenient discrete sizes. Electricity markets need to be designed to accommodate their lumpy nature. Wedad Elmaghraby, Richard O’Neill, Michael Rothkopf, and William Stewart Wedad Elmaghraby joined the Industrial and Systems Engineering Department at Georgia Institute of Technology as an Assistant Professor in 2000. She received a Ph.D. in Industrial Engineering and Operations Research from the University of California at Berkeley. She currently serves as a Consultant to the Federal Energy Regulatory Commission. Richard O’Neill is the Chief Economic Advisor at the Federal Energy Regulatory Commission. From 1988 to 2000, he served as Chief Economist and Director of the Office of Economic Policy. From 1986 to 1988 he was Director of the Commission’s Office of Pipeline and Producer Regulation. He holds an M.B.A. and Ph.D. in Operations Research from the University of Maryland. Michael H. Rothkopf is a Professor at Rutgers University, New Brunswick, New Jersey, in the Faculty of Management and in RUTCOR: The Rutgers Center for Operations Research. He is a Consultant to the Federal Energy Regulatory Commission and a former Head of the Energy Analysis Program at Lawrence Berkeley Laboratory. William Stewart is a Professor at the College of William and Mary, Williamsburg, Virginia. The views expressed in this article do not necessarily represent those of FERC or the United States. I. Introduction Many organized electricity markets have locational marginal pricing (LMP), financial trans- mission rights (CRRs) and a resource adequacy requirement. 1 At the heart of these markets is an auction that is used to determine the daily generation and con- sumption of energy. There has been some debate as to what market design the day-ahead and real-time auctions should take. In particular, there have been dif- ferent schools of thought about what pricing mechanism to use to clear short-term energy markets (daily and hourly). Policymakers and academics have discussed the relative advantages of discrimi- natory (non-anonymous) prices versus uniform (anonymous) prices and one-part versus multi- part pricing schemes [1–3]. U nder some proposed mar- ket designs, a system operator, such as a regional transmission organization (RTO), establish a security-constrained day-ahead and real-time market for spot energy in the form of an auction. Pricing in the auction is through locational marginal pri- cing, in which the market clearing price at each location is the shadow price on the energy balance con- straint for that location. Bids and 54 1040-6190/$–see front matter. Published by Elsevier Inc., doi:/10.1016/j.tej.2004.04.009 The Electricity Journal