Wind power investment in thermal system and emissions reduction

Abstract

This paper presents an analytical model for wind power investment. Most generation planning problems are formulated in multiperiod mixed integer programming with cost minimization as objective. We try to resort to finance literature for models able to systematically characterize return and risk. Real option theory is chosen. A primitive function is defined for the fuel cost able to be saved as the revenue of a wind power project. Subsequently the real project is described as a contingent claim on the stochastic fuel prices. Theoretical valuation of the project is thus given by the solution of a partial differential equation derived by Ito lemma. This formulation avoids the ambiguity in analyzing wind power investment based on non-market-based tariffs, but focuses on the welfare to the system as a whole. Finally a hypothetical scenario of carbon emission price is included to demonstrate the incentive it could offer to renewable generation.