Towards Smart Distribution Grids. A Structured Market Engineering Review

Seminar Paper, 2016

24 Pages, Grade: 1,0



1 Introduction

2 Related Work

3 Smart Distribution Grids: A Market Engineering Overview
3.1 Economic and Legal Environment
3.1.1 European Union (EU) Strategy
3.1.2 National Strategy in Germany
3.1.3 Implications for Local Markets in Distribution Grids
3.2 Market Outcome
3.3 Agent Behavior
3.4 Market Structure
3.4.1 Microstructure
3.4.2 IT Infrastructure
3.4.3 Business Structure
3.5 Transaction Object
3.6 Summary

4 Conclusion and Outlook


The changes taking place in the energy sector, the transition towards smart grids and an increasing share of distributed renewable energy sources (RES) generate the need for new market designs as well as new business models on the level of distribution grids. This work applies the market engineering framework to markets in smart distribution grids. Based on this structure, the most vital as­pects of local markets in smart grids are examined. First, a systematic overview of important research approaches in the respective fields is given. Second, in­termediaries are seen as markets engineers in their own one-sided market. This allows to further integrate related existing industry projects into the analysis. Thus, the relevance and practicability of the research and the value of the mar­ket engineering framework for local power markets is shown.

1 Introduction

New proposals for energy market designs on both national (Bundesministerium für Wirtschaft und Energie (BMWi) 2015b) and EU level (European Commission 2015b) call for a better integration of the increasing share of RES as well as open­ing the market to more actors in order to utilize their flexibilities. In particular, distribution system operators (DSOs) and aggregators could leverage flexibility from consumers to avoid more costly options such as using the operating reserve and to further generate revenue from new business models. Moreover, flexibil­ity products and services as well as other measures beneficial to the grid, and therefore beneficial to security of supply, are necessary.

In the following, this work gives a structured overview and analysis of cur­rent research approaches and real-world industry projects in Germany regarding smarter distribution grids along the elements of the market engineering frame­work. Moreover, all components of the market engineering framework are ana­lyzed and illustrated by examples. In addition, future research opportunities are highlighted for each framework element.

2 Related Work

The market engineering framework (Weinhardt, Holtmann, and Neumann 2003) serves as a basis for the development of a layout for markets in distribution grids. Along the elements in the framework, this work will analyze current developments in research, politics and industry related to the design of future local markets.

According to Weinhardt, Holtmann, and Neumann (2003), market engineering is a systematic and theoretically founded approach of the analysis, design, im­plementation, quality assurance and further development of electronic markets and their legal framework based on an integrated view of microstructure, infras­tructure and business structure.

Economic and Legal Environment In the framework, every market is surrounded by an economic and legal environment. Amongst others, this environment con­sists of the federal and international laws that apply to a particular market. The external economic and legal conditions influence several parts of a market and play an especially important role in the energy sector, e.g. through subsidies and regulation. Therefore, a condensed overview of relevant energy policies

illustration not visible in this excerpt

Figure 2.1: Market engineering framework after Weinhardt, Holtmann, and Neu­mann (2003)

currently in place in Germany and the European Union is given. Subsequently planned changes and their potential consequences on future markets are out­lined.

Market Outcome The market outcome constitutes the result of a market. In order to assess a market's performance, a range of relevant criteria is discussed. Additionally, benefits of markets in general and for new local markets in distri­bution grids in particular are highlighted.

Agent Behavior The market structure channels the behavior of the participat­ing agents. "Behavior connects motivation in the environment with the institu­tion to yield decisions, and outcomes" (Smith 2006). Central to future markets, types of new flexible users that emerge and the ways in which they can be integrated into the market, are analyzed. For that purpose, different kinds of in­centives are discussed. Besides gamification approaches and peer-to-peer (P2P) platforms, other current research approaches are investigated.

Market Structure According to the market engineering framework, the market structure itself consists of three pillars: the microstructure, the IT-infrastructure and the business structure.

Microstructure The market microstructure can be defined as "the study of the process and outcomes of exchanging assets under explicit trading rules" (O'Hara 1998). Here, the focus lies on designing markets that allow the short-term alloca­tion of balancing power on the level of distribution grids, and methods by which users will interact with the market in the future.

IT-Infrastructure All facilities required in order for markets to function on a technical level form the IT-infrastructure. This work covers current technological issues in this area and further discusses their potentials.

Business Structure The business structure encompasses the business and pric­ing model as well as possible trading fees in auctions (Weinhardt and Gimpel 2007; Burghardt and Weinhardt 2008). Perceiving new companies in the energy market as single markets themselves allows for analysis of new business models in the context of the market engineering framework. Following Wirtz (2013), a business model is "a description of the value a company offers to one or several segments of customers and the architecture of the firm and its network of part­ners for creating, marketing and delivering this value and relationship capital, in order to generate profitable and sustainable revenue streams." Proposals re­garding the business structure of future local markets are developed along these definitions.

Transaction Object Finally, the good traded between parties in a market is called transaction object. In general, this can be a product or a service (Clear­water 1996). As an example for future product differentiation quality of service (QoS) will be discussed.

3 Smart Distribution Grids: A Market Engineering Overview

This section elaborates on current research agendas by reviewing publications and projects for (local) markets in smart grids along the elements of the market engineering framework. Insights and possible future developments are provided for each element of the framework.

In the following, this work broadens the focus from the perspective of the market engineer to additionally highlight and incorporate the role of market intermedi­aries, or aggregators, as they represent an emerging entity in the current industry environment. Intermediaries can also take the role of a market engineer, where their market environment currently depicts a one-sided market, sometimes with a fixed price strategy. Nevertheless, engineering a business structure and de­signing appropriate transaction objects towards a market outcome still remains a valid and important task.

3.1 Economic and Legal Environment

Both on EU as well as on national level, efforts towards achieving ambitious energy targets, such as the EU 2030 targets (European Commission 2015b) or the exit from nuclear power generation (Bundesministerium für Wirtschaft und Energie (BMWi) 2015a), are driving changes to the current legal and economic environment which governs energy markets. For the case of electricity markets, a high-level overview is given in the following.

3.1.1 EU Strategy

Most recently, the EU started working on proposals for a new energy market design, which envisions a market design that should allow innovative compa­nies to provide for the energy needs of consumers by using new technologies, paradigms, products and services (European Commission 2015b). The proposed framework should not only deliver suitable EU-wide electricity markets that al­low for new incentives to integrate RES, but also to promote the coordination of energy policies as well as to ensure the security of supply. In more detail, opening the market to more actors, therefore allowing access to flexible demand and new energy service providers, e.g. aggregators, remains a priority. More­over, establishing better flexible and integrated short-term markets to allow more players on the supply and demand side to compete with conventional genera­tors, is encouraged.

In addition, removing obstacles for consumers represents a further item on the EU's agenda (European Commission 2015a). In particular, obstacles such as the lack of information on cost and consumption, grid charges, insufficient competi­tion in retail markets and the absence of markets for residential energy services as well as demand response (DR) must be addressed.

3.1.2 National Strategy in Germany

In late 2015, German policy established measures that target the development of an advanced electricity market - the electricity market 2.0 (Bundesministerium fur Wirtschaft und Energie (BMWi) 2015b). In part driven by EU policy, but mainly specific to national issues, the electricity market 2.0 draft tackles issues concern­ing the improvement of market mechanisms, fostering the market participants' flexibility, as well as the integration into the EU's internal energy market (IEM). Of particular interest is that DSOs, faced with a growing integration of RES, are required to perform new tasks such as feeding electricity back to higher voltage levels, expanding the grid, and monitoring security of supply under new con­ditions. In order to ensure security of supply, the integration and coordination of markets and distribution grids is of high significance. For more details on other possible fields of action, the reader is referred to Bundesministerium für Wirtschaft und Energie (BMWi) (2015a).

3.1.3 Implications for Local Markets in Distribution Grids

Clearly, both EU and national agenda in Germany require actions to strengthen the role of DSOs. By leveraging flexibility from consumers, more costly options in expectation such as re-dispatching, balancing, or feed-in-management can be avoided. Above all, it is necessary to use flexibility services and other measures beneficial to the grid and security of supply. In the following, this work classifies current approaches and gives ideas for future opportunities along the elements of the market engineering framework.

3.2 Market Outcome

Markets are designed to achieve a desired outcome, i.e., an allocation and pricing result. The performance of a market can be measured based on the market struc­ture and in particular the agent behavior, i.e., their preferences and actions, as well as the market outcome (Weinhardt, Holtmann, and Neumann 2003). Well- known global economic performance criteria are social welfare, i.e., the sum of all agents' payoffs for an outcome, and pareto efficiency, i.e., the state in which no agent can achieve a better solution without making at least one other agent worse off (Sandholm 1999).

Concerning the design of markets for distribution grids, market efficiency is cru­cial in order to ensure a continuous balance of supply and demand. Shortages on either side can result in costly emergency measures. Considering system sta­bility, incentives of agents should be aligned with security of supply in mind to prevent market failure. Moreover, the following suggestions for outcome objec­tives of secondary nature represent promising, yet important goals towards the success of local markets in smart grids.

- Consumer privacy must be protected in light of the large amount of high­resolution data collected by smart meters. Suitable arrangements in the IT infrastructure can support this outcome goal.
- Market mechanisms should be efficient in terms of computational costs. Waiting times for consumers regarding feedback should be kept at a mini­mum and basically not perceivable whenever possible.
- In order to integrate customers into such markets, intermediaries such as aggregators are required. These in turn will only operate given viable busi­ness models. Thus, a market outcome should consider (maximization of) revenue streams not only for the market engineer but also for its partici­pants.

These criteria can be achieved by designing the market structure and transaction object in an adequate manner.

Focusing on aggregators, the main market outcome is to allocate and in turn provide balancing power to ensure grid stability by efficiently controlling small power plants or to manage a pool of consumer batteries efficiently. For exam­ple, by connecting a small plant via Next Kraftwerke's Next Box to a virtual power plant (VPP), consumers can gain a share of revenue generated from the commercialization of balancing power by offering flexibility to the market mech­anism (Kraftwerke 2015). Beegy Solar pursues a similar approach, but focuses on solar generation while providing strong incentives such as guaranteed savings (pv-magazine 2015).

3.3 Agent Behavior

Agent behavior results from the transaction object and market structure. There­fore, it is not the goal of the market engineer to influence this behavior, but in­stead analyze and anticipate behavior and characteristics of agents (Weinhardt, Holtmann, and Neumann 2003; Weinhardt and Gimpel 2007).

In context of the smart grid, agents, or consumers, are expected to offer their flexibility to a market or market intermediary (Albadi and El-Saadany 2008).

Strbac (2008) describes flexibility as deferring or reducing loads over time. He et al. (2013) classify consumer load types into storable, shiftable, curtailable and base load as well as self-generation. Similarly, Petersen et al. (2013) present a tax­onomy for different quality levels of flexibility. By describing typical flexibility constraints, they develop the notion of high quality flexibility (buckets) which is only restricted by energy and capacity, batteries as a subset of buckets with the additional constraints of deadline and energy level, and finally bakeries with the additional constraints power consumption over time and run-time.

Current approaches suggest DR programs (Albadi and El-Saadany 2008; Palen- sky and Dietrich 2011) that should incentivize consumers to shift their various load types. In addition, other approaches to stimulate agent behavior might include:

- Gamification, i.e., using game design elements such as rankings in non­game contexts (Deterding et al. 2011) to support the consumers' value cre­ation (Huotari and Hamari 2012). By stimulating consumer participation in smart grids, they are more likely to offer their preferences on flexibility to the market or market intermediaries.
- Taking up the last point on user participation, hidden markets (Seuken, Jain, and Parkes 2010) can influence and mediate user behavior with the graphical user interface of a market. Hence, they facilitate consumer par­ticipation.
- In light of the rising sharing economy (Belk 2007; Hawlitschek, Teubner, and Gimpel 2016), P2P platforms present an opportunity to communicate and share different transactions objects with close neighbors or friends. Communities can share generation capacity and increase self-consumption of their electricity. The increased purchasing power allows larger genera­tion provisioning while at the same time decreasing grid fees (buzzn 2015).

When looking at real world examples of intermediaries, for example the strategy of employing hidden markets can be observed. Seuken, Jain, and Parkes (2010) state that "the complexities of the market must be hidden and the interaction for the user must be seamless" in cases where users participate in markets in every­day life without being experts in the field. Since this is clearly the case for a lot of potential customers of e.g., solar power plants and intelligent energy manage­ment software, it makes sense not to inform customers about the details behind the intermediaries' business models. Private owners of small power plants prob­ably would not want to have to actively make decisions about when and how to sell their energy on the market. Instead they prefer to hand over the respon­sibility to a so-called aggregator who acts and trades in their favor. Existing companies putting this approach into practice are for example Next Kraftwerke, Caterva, LichtBlick and Beegy. Some aggregators go as far as positioning them­selves as full-line providers which take care of the whole installation process, connection to the grid, all legal formalities and the constant monitoring and management. This minimizes efforts and increases customer participation.

3.4 Market Structure

Central to a functioning market structure are active market participants. Fo­cusing on distribution grids, strengthening the role of DSOs in markets and enabling the participation of flexible users and intermediaries, i.e., businesses that facilitate the participation of flexible users in (new) markets, represent the main challenges (Bundesministerium fur Wirtschaft und Energie (BMWi) 2015a). New transaction objects and market microstructures are emerging, while IT in­frastructure considerations on privacy and security need to be addressed. In the following, details on these issues as well as flexible users are provided.

3.4.1 Microstructure

The market microstructure describes the mechanism under which resources are allocated and priced. It consists of a market's trading rules and systems, consid­ers structural characteristics of markets and researches into the process through which prices and volumes are determined. Central elements of market mi­crostructure are therefore the market model or auction type, the execution sys­tem, the trading mechanism and the degree of transparency (O'Hara 1998). Moreover, the form in which information is exchanged, i.e., the bidding lan­guage, is defined in the microstructure (Weinhardt, Holtmann, and Neumann 2003).

Ramchurn et al. (2011) present a decentralized mechanism to manage demand in smart grids. The mechanism manages agents through a pricing mechanism that tries to avoid peak loads. Honing and Poutre (2014) introduce a combination of an ahead market and a last-minute balancing market. Their ahead market sup­ports both binding ahead-commitments and reserve capacity bids. Lamparter, Becher, and Fischer (2010) present a market mechanism that incentivizes agents to reveal their true preferences, therefore allowing an efficient solution for coor­dinating demand and supply. They note that the platform is suitable even for single local energy exchanges. Moreover, Samadi et al. (2012) propose a mech­anism for demand side management (DSM) which aims at maximizing social welfare of all agents while minimizing total generation cost.


Excerpt out of 24 pages


Towards Smart Distribution Grids. A Structured Market Engineering Review
Karlsruhe Institute of Technology (KIT)  (Department of Economics and Management Institute of Information Systems and Marketing (IISM))
Information & Market Engineering
Catalog Number
ISBN (eBook)
ISBN (Book)
File size
693 KB
Smart Grids, Smart Grid, Strommarkt, lokale Märkte, local markets, power market, distribution grids
Quote paper
B. Sc. Frederik vom Scheidt (Author), 2016, Towards Smart Distribution Grids. A Structured Market Engineering Review, Munich, GRIN Verlag,


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