Risk aversion and CO2 regulatory uncertainty in power generation investment: Policy and modeling implications

Abstract

a b s t r a c tWe consider a simulation of risk-averse producers when making investment decisions in a competitive energy market, who face uncertainty about future regulation of carbon dioxide emissions. Investments are made under regulatory uncertainty; then the regulatory state is revealed and producers realize returns. We consider anticipated taxes, grandfathered permits and auctioned permits and show that some anticipated policies increase investment in the relatively dirty technology. Beliefs about the policy instrument that will be used to price carbon may be as important as certainty that carbon will be priced. More generally, a failure to consider risk aversion may bias policy analysis for the power sector.

Market and policy risk under different renewable electricity support schemes

“…In that case, neither the decline in real investment costs nor the corresponding decline in the real tariff/ premiums in effect for new plants has to be modeled explicitly because we will get the same results by modeling tariffs/premiums and investment costs as fixed in real values. 10 In the remaining subsections, the behavior of the investors is as follows. Investors observe the current prices S and K. They then calculate the threshold revenue as a function of the current electricity price, SþK(S), using the appropriate threshold function derived in Sections 3 and 4.…”

Phasing out the U.S. Federal Helium Reserve: Policy insights from a world helium model

“…In the present paper, we examine the market equilibrium of a detailed model for which an analytical solution is virtually out of reach but, following Mathiesen (1985) and Rutherford (1995), a numerical one can be obtained by reformulating the market equilibrium problem as an instance of a mixed complementarity problem (MCP). 4 In recent years, a growing literature has applied the MCP methodology to investigate a variety of issues including: the impact of a CO2 regulation on power investment and electricity prices (Fan et al, 2010;Lise et al, 2010); the 4 An MCP is a square system of nonlinear inequalities that represent the economic equilibrium through zero marginal profit and market balance conditions determining equilibrium quantities and prices (Cottle et al, 1992;Gabriel et al, 2012a;Murphy et al, 2016).…”

Hydro resource management, risk aversion and equilibrium in an incomplete electricity market setting

“…As a general rule, the conclusions drawn from such models is that in the absence of long-term markets, agents" decisions differ from the ones they would have adopted if they were risk neutral. In this vein, the impact of uncertain CO2 permit policies (Fan et al, 2009) and price uncertainty (Ehremann et al, 2011) have been shown to have an impact that may call for compensatory regulatory measures.…”

“…See, for instance, Fan et al (2009), who use the generator"s utility function in a conceptual analysis of investment in generation, particularly in a context of regulatory uncertainty around CO2 policies.…”