An electricity market model with generation capacity expansion under uncertainty

Abstract

This article presents an electricity dispatch model with endogenous electricity generation capacity expansion for Germany over the horizon 2010–2035. The target is to quantify how fuel and carbon price risk impacts investment incentives of thermal power plants. We provide a framework for the evaluation of investment decisions under long-term uncertainty which helps integrating numerous scenarios in one single model and including security criteria such as minimum system capacity constraints. It is shown that outcomes of optimization under risk differ by the type of model used—deterministic or stochastic. The managerial implication is that private investors should take into account long-term uncertainty in integrated stochastic models instead of using scenario analysis with deterministic models. In doing so, investors account for the flexibility in second-stage decision-making after investment. Optimal decisions paths thus differ by the type of model used. Results point to findings which are in line with general theory: Accounting for stochasticity increases investment levels overall and the investment portfolio tends to become more diverse.