Electricity Markets Must Evolve as Power Systems Become More Complex, IEA Warns

Electricity markets must adapt as rising demand, variable generation and decentralised resources make power systems more complex, according to the International Energy Agency (IEA).

Its November 2025 report, Electricity Market Design: Building on strengths, addressing gaps, finds that short-term markets remain effective at coordinating electricity supply. But gaps in longer-term markets make it harder to finance the generation, storage and electrification projects needed for the next phase of growth.

Short-Term Markets Are Doing Their Job

According to the IEA, short-term electricity markets — including day-ahead, intraday and real-time trading — have continued to support reliable and efficient operations. Across the markets studied in Europe, the United States, Japan and Australia, electricity was securely supplied more than 99.9 per cent of the time during the five-year period examined.

In Europe, for example, the day-ahead market regularly processes more than 400,000 bids per hour from thousands of registered actors. That level of participation allows markets to efficiently coordinate generation, dispatch and demand — a critical function as variable renewables, storage, demand-side flexibility and distributed resources play larger roles.

Even these well-functioning markets need refinement. Growing variability in wind and solar output, changing demand and more resources connected to local distribution networks require prices that better reflect when and where electricity is needed. Smaller generators, batteries and consumers able to shift their electricity use also need easier access to markets.

In an earlier Energi Media interview, Stanford economist Frank Wolak explained how aggregators can turn that flexibility into savings. By bringing customers together and coordinating when they consume power, an aggregator can sell demand reductions into a wholesale market.

“The aggregators are kind of like travel agents,” Wolak said. They find combinations of technology and pricing plans that suit customers’ electricity needs and their ability to shift consumption.

Long-Term Markets Lag: Gaps Threaten Investment and Stability

While short-term trading remains robust, the IEA finds that forward and futures markets offer limited opportunities to manage longer-term price risks. Most trading is concentrated within two years of electricity delivery, far short of the 10 to 30 years typically needed to finance capital-intensive generation, storage and electrification projects.

That mismatch leaves investors and electricity buyers exposed to uncertain future prices, potentially raising financing costs and delaying investment. Long-term power purchase agreements can help, but the IEA finds that access remains uneven, particularly for smaller companies.

Policy Mechanisms Fill Gaps — But Come With Tradeoffs

To fill these gaps, many jurisdictions use renewable-support programs and capacity payments, which compensate resources for being available when needed. These mechanisms have become structural features of electricity systems in Europe, the United States, Japan and Australia.

Such mechanisms have helped deliver large-scale, low-emissions generation and preserve dispatchable or flexible resources — especially important as grids integrate more intermittent renewable energy. They also support emissions-reduction and reliability targets that market signals alone may not guarantee.

But the report cautions that if poorly designed or uncoordinated, these mechanisms can distort market signals, reduce efficiency, and drive up costs. Without careful alignment across short-term markets, long-term markets and policy instruments, there’s risk of inefficiency and long-term underperformance.

The Broader Challenge: Growing Demand, Electrification and System Complexity

Electrification of buildings, transport and industry, together with more wind, solar and customer-owned equipment, is changing both electricity supply and consumption. Digital controls can help coordinate these resources, but market rules must reward the services they provide.

The IEA’s June 2026 report, Scaling Up Demand Flexibility, reinforces that point. Its case studies examine how shifting electricity use can lower costs, support renewable generation and ease network constraints. Capturing those benefits requires regulatory reform, smart technologies and consumer participation.

Canadian Climate Institute research reaches a similar conclusion. Its January 2026 paper, Too Smart to Ignore, finds that flexible demand remains underused in Canada. Moving consumption away from peak periods can reduce or delay some infrastructure investment while making better use of the existing grid.

Kate Harland, the institute’s clean growth research director, explained the cost implications in an Energi Media interview. Without sufficient flexibility, utilities can end up building infrastructure needed for only a few hours a year. Managing both supply and demand improves utilisation.

“You’re using all of your equipment more efficiently, you’re using your infrastructure more efficiently,” she said.

Financing costs, supply-chain constraints, grid-development delays and geopolitical pressures add to the challenge. The IEA’s 2025 market-design report found that annual wholesale price volatility in many jurisdictions had reached five to nine times its 2019 level.

What the IEA Recommends

To address these challenges, the IEA report calls for a “holistic” approach to electricity-market design. This means preserving the strengths of short-term markets while reforming long-term markets and integrating complementary mechanisms coherently, rather than as ad hoc add-ons.

Among the report’s recommendations:

• Make short-term prices more responsive — use shorter trading intervals and prices that better reflect local grid constraints, while allowing distributed resources and flexible demand to participate.
• Strengthen long-term markets — make contracts easier to buy and sell, extend their duration and improve access to tools that manage price risk for long-lived investments.

• Coordinate policy mechanisms with market signals — ensuring capacity mechanisms, renewable support and decarbonization policies work in tandem with market design rather than in conflict, and avoid distortions.

• Treat market design as an ongoing, iterative process, with periodic review and adaptation to evolving system conditions, policy goals and technological developments — rather than as a fixed, one-time exercise.

What It Means for Canada

Canada’s provincial electricity systems have different ownership, market and regulatory arrangements, so the IEA’s recommendations cannot simply be applied identically across the country. But the underlying challenge is shared: coordinate investment and operations so that expanding electricity supply remains reliable and affordable.

University of Victoria electricity modeller Madeleine McPherson identified one important Canadian gap in a recent Energi Media interview: coordination between provincial plans. She argued that provincial planning should remain the foundation, with a broader process identifying opportunities for transmission links and cooperation.

“But what we’re missing is the coordination between provinces,” she said.

That adds a Canadian dimension to the IEA’s findings. Expanding generation is only part of the task. The rules governing investment, electricity trade and flexible consumption will help determine how much Canadians pay for the power system they need.

End Notes

1. International Energy Agency, Electricity Market Design: Building on strengths, addressing gaps, November 26, 2025.
2. International Energy Agency, Scaling Up Demand Flexibility: From peak management to efficient system operation, June 26, 2026.
3. Alex Vanderhoof, Canadian Climate Institute, Too Smart to Ignore: How flexible demand can help build a cleaner, more cost-effective electricity system, January 2026.
4. Frank Wolak, Stanford economist, interview with Markham Hislop for Energi Media on virtual power plants and electricity markets.
5. Kate Harland, Canadian Climate Institute clean growth research director, interview with Markham Hislop for Energi Media on electricity growth, grid flexibility and provincial planning.
6. Madeleine McPherson, University of Victoria electricity modeller, interview with Markham Hislop for Energi Media on electrification and coordinated grid planning.