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Asymmetric risk and fuel neutrality in electricity capacity markets

Author

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  • Jacob Mays

    (Northwestern University
    Federal Energy Regulatory Commission)

  • David P. Morton

    (Northwestern University)

  • Richard P. O’Neill

    (Federal Energy Regulatory Commission)

Abstract

In many liberalized electricity markets, power generators can receive payments for maintaining capacity through capacity markets. These payments help stabilize generator revenues, making investment in capacity more attractive for risk-averse investors when other outlets for risk trading are limited. Here we develop a heuristic algorithm to solve large-scale stochastic equilibrium models describing a competitive market with incomplete risk trading. Introduction of a capacity mechanism has an asymmetric effect on the risk profile of different generation technologies, tilting the resource mix towards those with lower fixed costs and higher operating costs. One implication of this result is that current market structures may be ill-suited to financing low-carbon resources, the most scalable of which have high fixed costs and near-zero operating costs. Development of new risk trading mechanisms to replace or complement current capacity obligations could lead to more efficient outcomes.

Suggested Citation

  • Jacob Mays & David P. Morton & Richard P. O’Neill, 2019. "Asymmetric risk and fuel neutrality in electricity capacity markets," Nature Energy, Nature, vol. 4(11), pages 948-956, November.
    • Handle: RePEc:nat:natene:v:4:y:2019:i:11:d:10.1038_s41560-019-0476-1
    DOI: 10.1038/s41560-019-0476-1
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    Citations

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    Cited by:

    1. Célia Escribe & Josselin Garnier & Emmanuel Gobet, 2024. "A Mean Field Game Model for Renewable Investment Under Long-Term Uncertainty and Risk Aversion," Dynamic Games and Applications, Springer, vol. 14(5), pages 1093-1130, November.
    2. Villalobos, Cristian & Negrete-Pincetic, Matías & Figueroa, Nicolás & Lorca, Álvaro & Olivares, Daniel, 2021. "The impact of short-term pricing on flexible generation investments in electricity markets," Energy Economics, Elsevier, vol. 98(C).
    3. Fraunholz, Christoph & Keles, Dogan & Fichtner, Wolf, 2019. "On the role of electricity storage in capacity remuneration mechanisms," Working Paper Series in Production and Energy 37, Karlsruhe Institute of Technology (KIT), Institute for Industrial Production (IIP).
    4. Simshauser, Paul, 2024. "On static vs. dynamic line ratings in renewable energy zones," Energy Economics, Elsevier, vol. 129(C).
    5. Amigo, Pía & Cea-Echenique, Sebastián & Feijoo, Felipe, 2021. "A two stage cap-and-trade model with allowance re-trading and capacity investment: The case of the Chilean NDC targets," Energy, Elsevier, vol. 224(C).
    6. Peter Cramton & Emmanuele Bobbio & David Malec & Pat Sujarittanonta, 2022. "Electricity Markets in Transition: A Multi-Decade Micro-Model of Entry and Exit in Advanced Wholesale Markets," ECONtribute Discussion Papers Series 183, University of Bonn and University of Cologne, Germany.
    7. Han Shu & Jacob Mays, 2022. "Beyond capacity: contractual form in electricity reliability obligations," Papers 2210.10858, arXiv.org.
    8. Bialek, Sylwia & Ünel, Burçin, 2022. "Efficiency in wholesale electricity markets: On the role of externalities and subsidies," Energy Economics, Elsevier, vol. 109(C).
    9. Anna Schwele & Christos Ordoudis & Pierre Pinson & Jalal Kazempour, 2021. "Coordination of power and natural gas markets via financial instruments," Computational Management Science, Springer, vol. 18(4), pages 505-538, October.
    10. Farhad Billimoria & Filiberto Fele & Iacopo Savelli & Thomas Morstyn & Malcolm McCulloch, 2021. "On the Design of an Insurance Mechanism for Reliability Differentiation in Electricity Markets," Papers 2106.14351, arXiv.org.
    11. Frew, Bethany & Bashar Anwar, Muhammad & Dalvi, Sourabh & Brooks, Adria, 2023. "The interaction of wholesale electricity market structures under futures with decarbonization policy goals: A complexity conundrum," Applied Energy, Elsevier, vol. 339(C).
    12. Farhad Billimoria & Filiberto Fele & Iacopo Savelli & Thomas Morstyn & Malcolm McCulloch, 2023. "An Insurance Paradigm for Improving Power System Resilience via Distributed Investment," Papers 2302.01456, arXiv.org.
    13. Lebeau, Alexis & Petitet, Marie & Quemin, Simon & Saguan, Marcelo, 2024. "Long-term issues with the Energy-Only Market design in the context of deep decarbonization," Energy Economics, Elsevier, vol. 132(C).
    14. Farhad Billimoria & Paul Simshauser, 2023. "Contract design for storage in hybrid electricity markets," Working Papers EPRG2304, Energy Policy Research Group, Cambridge Judge Business School, University of Cambridge.
    15. Shu, Han & Mays, Jacob, 2023. "Beyond capacity: Contractual form in electricity reliability obligations," Energy Economics, Elsevier, vol. 126(C).
    16. Billimoria, Farhad & Fele, Filiberto & Savelli, Iacopo & Morstyn, Thomas & McCulloch, Malcolm, 2022. "An insurance mechanism for electricity reliability differentiation under deep decarbonization," Applied Energy, Elsevier, vol. 321(C).
    17. Fraunholz, Christoph & Miskiw, Kim K. & Kraft, Emil & Fichtner, Wolf & Weber, Christoph, 2021. "On the role of risk aversion and market design in capacity expansion planning," Working Paper Series in Production and Energy 62, Karlsruhe Institute of Technology (KIT), Institute for Industrial Production (IIP).
    18. Kozlova, Mariia & Huhta, Kaisa & Lohrmann, Alena, 2023. "The interface between support schemes for renewable energy and security of supply: Reviewing capacity mechanisms and support schemes for renewable energy in Europe," Energy Policy, Elsevier, vol. 181(C).
    19. Botor, Benjamin & Böcker, Benjamin & Kallabis, Thomas & Weber, Christoph, 2021. "Information shocks and profitability risks for power plant investments – impacts of policy instruments," Energy Economics, Elsevier, vol. 102(C).
    20. Muñoz, Francisco D. & Suazo-Martínez, Carlos & Pereira, Eduardo & Moreno, Rodrigo, 2021. "Electricity market design for low-carbon and flexible systems: Room for improvement in Chile," Energy Policy, Elsevier, vol. 148(PB).
    21. Neuhoff, Karsten & Richstein, Jörn C. & Kröger, Mats, 2023. "Reacting to changing paradigms: How and why to reform electricity markets," Energy Policy, Elsevier, vol. 180(C).
    22. Fraunholz, Christoph & Keles, Dogan & Fichtner, Wolf, 2021. "On the role of electricity storage in capacity remuneration mechanisms," Energy Policy, Elsevier, vol. 149(C).
    23. Dirk Hladik & Christoph Fraunholz & Matthias Kühnbach & Pia Manz & Robert Kunze, 2020. "Insights on Germany’s Future Congestion Management from a Multi-Model Approach," Energies, MDPI, vol. 13(16), pages 1-27, August.
    24. Summerfield-Ryan, Oliver & Park, Susan, 2023. "The power of wind: The global wind energy industry's successes and failures," Ecological Economics, Elsevier, vol. 210(C).

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