Energy markets are often misunderstood, even by people who closely follow the economy. Electricity pricing can behave in ways that appear counterintuitive, with prices occasionally going negative or surging to extraordinary levels.
According to Neel Somani, former Citadel commodities quant and founder of the blockchain platform Eclipse, these outcomes are not market failures. They are the result of how electricity markets are designed.
Drawing on his experience analyzing power markets at Citadel, Somani has been explaining the inner workings of the grid, including why Texas sometimes experiences blackouts, negative power prices, and dramatic price spikes.
Why Texas Is Different
One of the most important things to understand about Texas’s electricity system, Somani explains, is that it operates largely outside the jurisdiction of the Federal Energy Regulatory Commission (FERC).
This independence allows the state’s power market to approach reliability differently from most of the United States.
“The key to grid reliability is having as much supply on the grid as possible,” Somani says.
In most regions, grid operators guarantee that supply by paying certain power plants simply to remain available, even if they rarely generate electricity.
Texas, however, largely rejects that model.
The “Last Megawatt” That Sets the Price
Neel Somani notes that electricity prices are determined by what’s known as marginal pricing, the cost of the last unit of power required to meet demand.
“If the first thousand megawatts of power are basically free, but the last megawatt costs $1,000 to produce, then everyone gets paid $1,000,” Somani explains.
This pricing structure benefits renewable energy producers such as wind and solar farms, whose marginal costs are close to zero.
But it also creates a challenge.
The least efficient power plants, often older gas generators, may only run during periods of extreme demand. When they do operate, the market price typically equals their cost of production, leaving them with little or no profit.
How Other Power Markets Handle Reliability
Most electricity markets solve this problem through capacity payments.
Regions such as California and PJM pay generators monthly simply to remain operational in case they are needed.
Somani describes this as a form of reliability insurance.
“You’re basically paying these generators every single month just to stay alive,” he explains.
Texas, however, takes a different view.
Texas’s Scarcity Pricing Model
Instead of paying generators continuously, Texas allows electricity prices to spike during periods of scarcity.
The system uses what Somani describes as a price adder, which is based on the estimated economic cost of a blackout.
If a blackout is estimated to cost society around $9,000 per megawatt hour, then the market can justify paying generators prices approaching that level when supply becomes scarce.
“If there’s a 10 percent chance of a blackout,” Somani says, “in theory you should be willing to pay 10 percent of $9,000 to every generator helping prevent it.”
This design rewards generators during rare moments when the grid is under stress rather than paying them year-round.
However, when severe shortages occur, as during the February 2021 Texas winter storm, electricity prices can reach the full scarcity price.
Why Electricity Prices Sometimes Go Negative
Somani also points out that Texas’s power market occasionally produces negative electricity prices, a phenomenon that often confuses observers.
Negative prices occur when supply exceeds demand.
Wind energy plays a major role in this dynamic. West Texas has some of the largest wind farms in the world, and shutting down turbines can be expensive.
“These turbines cost money to shut down,” Somani explains. “So if they know they’re only going to lose money for a few hours, they’ll often just keep running.”
Subsidies tied to renewable energy production can further encourage generators to continue producing electricity even when prices dip below zero.
The Hidden Complexity of Electricity Demand
Even accurately forecasting total electricity demand does not eliminate risk in power markets.
According to Somani, one of the most challenging aspects of energy trading is something known as demand shaping.
Electricity consumption fluctuates dramatically throughout the day.
In California, for example, analysts often reference the “duck curve,” which illustrates how solar power suppresses midday demand but creates a steep demand spike in the evening when people return home and turn on lights, appliances, and electronics.
Another complicating factor is behind-the-meter solar, rooftop panels installed on homes and businesses.
Because this electricity is generated privately, it never appears in official grid demand data.
Somani explains that analysts must therefore model two separate curves: the demand that would have occurred without rooftop solar, and the electricity generated privately by those systems.
The difference between those two curves represents the actual demand that reaches the grid.
Why Timing Matters as Much as Demand
Neel Somani emphasizes that the timing of electricity consumption can be just as important as the total amount of power used.
If demand is evenly distributed throughout the day, it can be served by efficient generators operating continuously.
But when demand spikes suddenly, such as during evening hours, grid operators must rely on faster-starting but less efficient generators.
Those generators are more expensive to operate, which pushes electricity prices higher.
Understanding the Economics of the Grid
Neel Somani’s explanations highlight how electricity markets are governed by economic incentives that often produce surprising outcomes.
Prices can surge during scarcity, fall below zero during oversupply, and fluctuate dramatically based on the timing of demand.
But according to Neel Somani, these outcomes are not anomalies. They are the result of deliberate market design intended to balance efficiency, reliability, and cost.
As renewable energy expands and distributed generation continues to grow, understanding these mechanisms will become increasingly important for policymakers, investors, and consumers alike.
