Locational marginal pricing (LMP)
The price of delivering one more megawatt-hour of electricity to a specific place on the grid at a specific moment.
Locational marginal pricing answers a simple question: what does it cost to deliver one more unit of electricity to this exact spot, right now? Because electricity can't be stored cheaply at scale and wires have limits, the answer changes from place to place and from minute to minute. Two substations a few miles apart can see very different prices at the same instant.
The price at each location is built from three parts. The energy component is the system-wide cost of producing one more megawatt-hour — the same everywhere. The congestion component reflects what it costs to work around overloaded transmission lines to serve that particular location. The loss component accounts for the electricity that turns into heat on the wires along the way.
When the grid is uncongested, prices across a region converge and the energy component dominates. When a line reaches its limit, the market must lean on more expensive generators on one side of the constraint and back down cheaper ones on the other — and prices split. That split is the congestion component doing its work.
In ERCOT, LMPs are computed roughly every five minutes at thousands of electrical buses. Traders, generators, and battery operators live and die by these numbers, because they determine what every megawatt-hour is worth at each point on the network.
For the technical reader
Formally, the LMP at bus i is the shadow price on that bus's power-balance constraint in the security-constrained economic dispatch (SCED) optimization: the change in total system production cost from serving one additional MW at that bus. It decomposes as LMP_i = λ (system lambda, the energy component) + congestion_i + losses_i, where the congestion component is the sum over binding transmission constraints of each constraint's shadow price weighted by the bus's shift factor on that constraint.
The decomposition is reference-bus dependent: congestion and loss components are only meaningful relative to the chosen reference, though price differences between buses are not. In ERCOT, SCED produces real-time LMPs on a ~5-minute cadence, while the day-ahead market clears hourly LMPs from a unit-commitment optimization; settlement then happens at settlement points (resource nodes, hubs, and load zones) derived from bus-level LMPs.