The market value of variable renewables: The effect of solar wind power variability on their relative price

This paper provides a comprehensive discussion of the market value of variable renewable energy (VRE). The inherent variability of wind speeds and solar radiation affects the price that VRE generators receive on the market (market value). During windy and sunny times the additional electricity supply reduces the prices. Because the drop is larger with more installed capacity, the market value of VRE falls with higher penetration rate. This study aims to develop a better understanding on how the market value with penetration, and how policies and prices affect the market value. Quantitative evidence is derived from a review of published studies, regression analysis of market data, and the calibrated model of the European electricity market EMMA. We find the value of wind power to fall from 110% of the average power price to 50–80% as wind penetration increases from zero to 30% of total electricity consumption. For solar power, similarly low value levels are reached already at 15% penetration. Hence, competitive large-scale renewable deployment will be more difficult to accomplish than as many anticipate

The Optimal Share of Variable Renewables: How the Variability of Wind and Solar Power affects their Welfare-optimal Deployment

This paper estimates the welfare-optimal market share of wind and solar power, explicitly taking into account their output variability. We present a theoretical valuation framework that consistently accounts for the impact of fluctuations over time, forecast errors, and the location of generators in the power grid on the marginal value of electricity from renewables. Then the optimal share of wind and solar power in Northwestern Europe's generation mix is estimated from a calibrated numerical model. We find the optimal long-term wind share to be 20%, three times more than today; however, we also find significant parameter uncertainty. Variability significantly impacts results: if winds were constant, the optimal share would be 60%. In addition, the effect of technological change, price shocks, and policies on the optimal share is assessed. We present and explain several surprising findings, including a negative impact of CO2 prices on optimal wind deployment

The Market Value of Solar Power: Is Photovoltaics Cost-Competitive?

This paper reviews the economics of solar power as a source of grid-connected electricity generation. It is widely acknowledged that costs of solar power have declined, but there is disagreement how its economic value should be calculated. ‘Grid parity’, comparing generation costs to the retail price, is an often used yet flawed metric for economic assessment, as it ignores grid fees, levies, and taxes. It also fails to account for the fact that electricity is more valuable at some points in time and at some locations than that at others. A better yardstick than the retail price is solar power's ‘market value’. This paper explains why, and provides empirical estimates of the solar market value from a literature review, German spot market analysis, and the numerical electricity market model EMMA. At low penetration rates (<2–5%) solar power's market value turns out to be higher than the average wholesale electricity price – mainly, because the sun tends to shine when electricity demand is high. With increasing penetration, the market value declines – the solar premium turns into a solar penalty. In Germany, the value of solar power has fallen from 133% of the average electricity price to 98% as solar penetration increased from zero to 4.7%. This value drop is steeper than wind power's value drop, because solar generation is more concentrated in time. As a consequence, large-scale solar deployment without subsidies will be more difficult to accomplish than many observers have anticipated

The role of capital costs in decarbonizing the electricity sector

Low-carbon electricity generation, i.e. renewable energy, nuclear power and carbon capture and storage, is more capital intensive than electricity generation through carbon emitting fossil fuel power stations. High capital costs, expressed as high weighted average cost of capital (WACC), thus tend to encourage the use of fossil fuels. To achieve the same degree of decarbonization, countries with high capital costs therefore need to impose a higher price on carbon emissions than countries with low capital costs. This is particularly relevant for developing and emerging economies, where capital costs tend to be higher than in rich countries. In this paper we quantitatively evaluate how high capital costs impact the transformation of the energy system under climate policy, applying a numerical techno-economic model of the power system. We find that high capital costs can significantly reduce the effectiveness of carbon prices: if carbon emissions are priced at USD 50 per ton and the WACC is 3%, the cost-optimal electricity mix comprises 40% renewable energy. At the same carbon price and a WACC of 15%, the cost-optimal mix comprises almost no renewable energy. At 15% WACC, there is no significant emission mitigation with carbon pricing up to USD 50 per ton, but at 3% WACC and the same carbon price, emissions are reduced by almost half. These results have implications for climate policy; carbon pricing might need to be combined with policies to reduce capital costs of low-carbon options in order to decarbonize power systems

Price elasticity of electricity demand: Using instrumental variable regressions to address endogeneity and autocorrelation of high-frequency time series

This paper examines empirical methods for estimating the response of aggregated electricity demand to high-frequency price signals, the short-term elasticity of electricity demand. We investigate how the endogeneity of prices and the autocorrelation of the time series, which are particularly pronounced at hourly granularity, affect and distort common estimators. After developing a controlled test environment with synthetic data that replicate key statistical properties of electricity demand, we show that not only the ordinary least square (OLS) estimator is inconsistent (due to simultaneity), but so is a regular instrumental variable (IV) regression (due to autocorrelation). Using wind as an instrument, as it is commonly done, may result in an estimate of the demand elasticity that is inflated by an order of magnitude. We visualize the reason for the Thams bias using causal graphs and show that its magnitude depends on the autocorrelation of both the instrument, and the dependent variable. We further incorporate and adapt two extensions of the IV estimation, conditional IV and nuisance IV, which have recently been proposed by Thams et al. (2022). We show that these extensions can identify the true short-term elasticity in a synthetic setting and are thus particularly promising for future empirical research in this field.Comment: 25 pages, 12 figures, 2 table

Redistribution Effects of Energy and Climate Policy: The Electricity Market

Energy and climate policies are usually seen as measures to internalize externalities. However, as a side effect, the introduction of these policies redistributes wealth between consumers and producers, and within these groups. While redistribution is seldom the focus of the academic literature in energy economics, it plays a central role in public debates and policy decisions. This paper compares the distributional effects of two major electricity policies: support schemes for renewable energy sources, and CO2 pricing. We find that the redistribution effects of both policies are large, and they work in opposed directions. While renewables support transfers wealth from producers to consumers, carbon pricing does the opposite. More specifically, we show that moderate amounts of wind subsidies can increase consumer surplus, even if consumers bear the subsidy costs. CO2 pricing, in contrast, increases aggregated producer surplus, even without free allocation of emission allowances; however, not all types of producers benefit. These findings are derived from an analytical model of electricity markets, and a calibrated numerical model of Northwestern Europe. Our findings imply that if policy makers want to avoid large redistribution they might prefer a mix of policies, even if CO2 pricing alone is the first-best climate policy in terms of allocative efficiency

System-friendly wind power: How advanced wind turbine design can increase the economic value of electricity generated through wind power

Previous studies find that the economic value of electricity (USD/MWh) generated by wind power drops with increasing market share. Different measures can help mitigate the value drop, including electricity storage, flexible conventional plants, expansion of transmission, and demand response. This study assesses another option: a change in design of wind power plants. “Advanced” wind turbines that are higher and have a larger rotor compared to rated capacity (lower specific rating) generate electricity more constantly than “classical” turbines. Recent years have witnessed a significant shift towards such advanced technology. Our model-based analysis for Northwestern Europe shows that such design can substantially increase the spot market value of generated electricity. At a 30% penetration rate, the value of 1 MWh of electricity generated from a fleet of advanced turbines is estimated to be 15% higher than the value of 1 MWh from classical turbines. The additional value is large, whether compared to wind generation costs, to the value drop, or to the effect of alternative measures such as electricity storage. Extensive sensitivity tests indicate that this finding is remarkably robust. The increase in bulk power value is not the only advantage of advanced turbines: additional benefits might accrue from reduced costs for power grids and balancing services. To fully realize this potential, power markets and support policies need to be appropriately designed and signal scarcity investors

Balancing power and variable renewables: Three links

Balancing power is used to quickly restore the supply-demand balance in power systems. The need for this tends to be increased by the use of variable renewable energy sources (VRE) such as wind and solar power. This paper reviews three channels through which VRE and balancing systems interact: the impact of VRE forecast errors on balancing reserve requirements; the supply of balancing services by VRE generators; and the incentives to improve forecasting provided by imbalance charges. The paper reviews the literature, provides stylized facts from German market data, and suggests policy options. Surprisingly, while German wind and solar capacity has tripled since 2008, balancing reserves have been reduced by 15%, and costs by 50%

The role of capital costs for decarbonizing the electricity sector

Low-carbon electricity generation, i.e. renewable energy, nuclear power and carbon capture and storage, is more capital intensive than electricity generation through carbon emitting fossil fuel power stations. High capital costs, expressed as high weighted average cost of capital (WACC), thus tend to encourage the use of fossil fuels. To achieve the same degree of decarbonization, countries with high capital costs therefore need to impose a higher price on carbon emissions than countries with low capital costs. This is particularly relevant for developing and emerging economies, where capital costs tend to be higher than in rich countries. In this paper we quantitatively evaluate how high capital costs impact the transformation of the energy system under climate policy, applying a numerical techno-economic model of the power system. We find that high capital costs can significantly reduce the effectiveness of carbon prices: if carbon emissions are priced at USD 50 per ton and the WACC is 3%, the cost-optimal electricity mix comprises 40% renewable energy. At the same carbon price and a WACC of 15%, the cost-optimal mix comprises almost no renewable energy. At 15% WACC, there is no significant emission mitigation with carbon pricing up to USD 50 per ton, but at 3% WACC and the same carbon price, emissions are reduced by almost half. These results have implications for climate policy; carbon pricing might need to be combined with policies to reduce capital costs of low-carbon options in order to decarbonize power systems

What caused the drop of European electricity prices? A factor decomposition analysis

European wholesale electricity prices have dropped by early two thirds since their all-time high around 2008. Different factors have been blamed, or praised, for having caused the price slump: the expansion of renewable energy; the near-collapse of the European emissions trading scheme; over-optimistic power plant investments; a decline in final electricity consumption; and cheap coal and natural gas. This ex-post study of European electricity markets from 2008 to 2015 uses a fundamental power market model to quantify their individual contributions on day-ahead prices. The two countries we study in detail, Germany and Sweden,differ significantly: fuel and CO2 prices were important price drivers in Germany, but in Sweden it was electricity demand. This difference is explained by the nature of the hydro-dominate Nordic electricity system. In both countries, however, the single largest factor depressing prices was the expansion of renewable energy. At the same time, Germany’s nuclear phase-out had an upward effect on prices. If one defines the Energiewende as the combination of these two policies, its net effect on power prices was negligible