Market Makers in Thin Power Futures Markets: Testing the Kyle Model's Robustness

Canonical market microstructure theories, validated in liquid financial markets, are often misapplied to illiquid power futures. This study introduces the Impact-Inventory Parity (IIP) parameter Ψ, bridging the Kyle (information-based) and Ho-Stoll (inventory-based) models, and uses agent-based simulations to test its validity in thin markets. We uncover a critical asymmetry: while competition consistently pushes markets towards inventory dominance, the countervailing effect of non-linear inventory costs systematically weakens as markets thin due to lower inventory variance. This creates a structural bias toward inventory dominance Ψ=1 that persists despite strong convex penalties. Adaptive behaviour revealed a stability paradox, causing severe parity breakdown that was amplified by liquidity, not thinness. Parameter space analysis showed market stability rests equally on three structural pillars: participation, liquidity, and information quality. Among stable markets, information quality dominates regime outcomes, while adaptative behaviour acts as a critical threshold where small changes can trigger immediate market collapse. Across the physically plausible parameter space, inventory-dominated regimes comprise the vast majority (73%) of configurations, while the balanced-risk conditions predicted by classical theory are rare (8%), confirming parity as a narrow, fragile equilibrium. The framework proves robust in thin, fragmented markets—precisely where canonical models fail, while becoming unreliable in the liquid, centralized venues where those models were validated.