Final answer:
In the Syldavian electricity market when the pool price equals the strike price, no payment is made. If the pool price is higher, the buyer pays the seller the difference, and if lower, the seller compensates the buyer.
Step-by-step explanation:
The student's question pertains to the mechanism of a contract for difference (CFD) within the Syldavian electricity market, particularly between the Syldavia Aluminum Company (SALCo) and the Northern Syldavia Power Company (NSPCo) for a continuous delivery of 200 MW at a strike price of 16 $/MWh. Understanding the flow of power and money involves analyzing three different scenarios where the pool price is identical to, above, or below the strike price.
Case 1: Pool price = Strike price (16 $/MWh)
In this scenario, the price in the Power Pool is equal to the strike price. As a result, there is no payment between SALCo and NSPCo because the contract price and the market price are the same.
Case 2: Pool price > Strike price (18 $/MWh)
When the pool price is higher than the strike price, SALCo would pay NSPCo the difference, which is (18 - 16) $/MWh. For 200 MW, this equates to 400 $/hour that SALCo owes to NSPCo.
Case 3: Pool price < Strike price (13 $/MWh)
Conversely, if the pool price is lower than the strike price, NSPCo will compensate SALCo for the difference. Therefore, NSPCo pays SALCo (16 - 13) $/MWh, or 600 $/hour for the 200 MW.
In summary, contracts for difference play a crucial role in the electricity market, providing a form of price hedging for both buyers and sellers of energy, ensuring stability in financial planning despite the volatility in market prices.