Non-Constant Elasticity of Substitution and Intermittent Renewable Energy

Abstract

In this article, we present a model of the electricity sector where generation technologies are intermittent. The economic value of an electricity generation technology is given by integrating its production profile with the market price of electricity. We use estimates of the consumer's intertemporal elasticity of substitution for electricity consumption while parameterizing the model empirically to numerically calculate the elasticity between renewables and fossil energy. We find that there is a non-constant elasticity of substitution between renewable and fossil energy that depends on prices and intermittency. This suggests that the efficacy and welfare effects of carbon taxes and renewable subsidies vary geographically. Subsidizing research into battery technology and tailoring policy for local energy markets can mitigate these distributional side effects while complementing traditional policies used to promote renewable energy.

Foreword

“…Finally, for the case of energy, spatial heterogeneity in the availability of renewable energy also means that the degree of intermittency varies across states. Because the elasticity of substitution between renewable and fossil fuels rises with intermittency, Aleti and Hochman's (2020) findings imply that the efficacy and welfare impacts of carbon taxes and renewable subsidies will also vary across regions.…”

“…Solutions to local environmental problems directly require an expenditure outlay to acquire land (Sharma et al 2020), subsidize BMPs (Yehouenou et al 2020; Liu and Ruebeck 2020), fund PWSs (Fu et al 2020), or invest in renewable energy technologies (Aleti and Hochman 2020). The allocation of funding or targeting for subsidies or taxes would vary spatially due to various location-specific environmental and economic factors, and it is in this area that Segerson (2020) asserts that the local jurisdictions’ power and responsibility may also lie, not just in policy design.…”

“…Key to both Segerson's and Popp's arguments is the need for coordination and integration. Specifically applying Popp's (2020) lessons to Aleti and Hochman's (2020) findings suggests that despite geographical differences in the intermittency of renewables and in the welfare burden of environmental and technology policies, we cannot rely on states or local jurisdictions to undertake research on renewable energy technology independently or unilaterally. Popp (2020) suggests that coordination of both policy targets to increase the overall market size of such technologies and coordination in R&D to diversify risk and avoid duplication of efforts are necessary.…”

“…Popp (2020) suggests that coordination of both policy targets to increase the overall market size of such technologies and coordination in R&D to diversify risk and avoid duplication of efforts are necessary. Further, the success of demand-side but not supply-side policies to promote technology transfer beyond the boundaries of where development takes place may be a key consideration when viewing Aleti and Hochman's (2020) policy recommendations. These lessons on market scale, demand-side approach, and coordination potentially have wide-ranging implications for innovation-based solutions to other local environmental problems.…”