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The Economics of Wind and Solar Variability

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The Economics of Wind and Solar Variability The Economics of Wind and Solar Variability How the Variability of Wind and Solar Power affects their Marginal Value, Optimal Deployment, and Integration Costs vorgelegt von Dipl.-Volksw. & Mag. phil. Lion Hirth aus München von der Fakultät VI – Planen Bauen Umwelt der Technischen Universität Berlin zur Erlangung des akademischen Grades Doktor der Wirtschaftswissenschaften - Dr. rer. oec. - genehmigte Dissertation Promotionsausschuss: Vorsitzender: Prof. Dr. Johann Köppel Gutachter: Prof. Dr. Ottmar Edenhofer Gutachter: Prof. Dr. Thmoas Bruckner Tag der wissenschaftlichen Aussprache: 14. November 2014 Berlin 2014 D83 Contents Summary 7 Zusammenfassung 9 Acknowledgements 11 1 Introduction 13 1.1 The increasing importance of wind and solar power 16 1.2 Three public policy debates 18 1.3 Electricity: an economic good with peculiar characteristics 20 1.4 Three intrinsic properties of variable renewables 21 1.5 Two strands of the literature 22 1.6 Research questions 23 1.7 Topics beyond the scope of this thesis 24 1.8 The power market model EMMA 25 1.9 Outline of the thesis 26 1.10 References 28 2 Economics of Electricity 31 2.1 Introduction 34 2.2 Electricity is a heterogeneous good 36 2.3 Welfare economics of electricity generation technology perspective 40 2.4 Welfare economics of electricity generation reformulated load perspective 43 2.5 Empirically estimating variability costs pragmatic ideas 46 2.6 What is special about wind and solar power? 48 2.7 Concluding remarks 51 2.8 References 53 3 4 Contents 3 Framework 59 3.1 Introduction 61 3.2 Definition of integration costs 62 3.3 Decomposition 64 3.4 The technical fundamentals behind integration costs 65 3.5 Quantifications from the literature 68 3.6 Who bears integration costs? 71 3.7 Concluding remarks 71 3.8 Appendix 72 3.9 References 73 4 Market Value 77 4.1 Introduction 79 4.2 Literature review 81 4.3 Market data 84 4.4 Numerical modeling methodology 85 4.5 Model results 86 4.6 Discussion 93 4.7 Conclusions 94 4.8 References 95 5 Optimal Share 99 5.1 Introduction 102 5.2 Theory the economics of variability 103 5.3 Review of the quantitative literature 110 5.4 Numerical modeling methodology 114 5.5 Numerical results 117 5.6 Discussion of numerical results 124 5.7 Conclusions 127 5.8 References 128 6 Redistribution 137 6.1 Summary 139 6.2 Literature review 140 6.3 Methodology 141 6.4 Wind support 144 Contents 5 6.5 CO2 pricing 147 6.6 Policy mix 150 6.7 Conclusion 151 6.8 References 151 7 Balancing Power 153 7.1 Introduction 156 7.2 Fundamentals of BALancing systems 158 7.3 Calculating the BALancing reserve requirement 161 7.4 Balancing power market 165 7.5 Imbalance Settlement System 170 7.6 Concluding remarks 174 7.7 References 175 8 Findings and Conclusions 179 8.1 The literature is scattered 181 8.2 Conceptual findings 182 8.3 Quantitative findings 183 8.4 Methodological conclusion 188 8.5 Policy conclusions 189 8.6 References 190 9 Appendix 191 9.1 Ad campaign of German utilities 193 9.2 EMMA model formulation 194 Statement of Contribution 199 Tools and Resources 201 6 Contents Summary 7 Non-technical summary Variable renewable energy sources (VRE) for electricity generation, such as wind and solar power, are sub- ject to inherent output fluctuations. This variability has significant impacts on power system and electricity markets if VRE are deployed at large scale. While on global average, wind and solar power currently supply only a minor share of electricity, they are expected to play a much larger role in the future such that varia- bility will become a major issue (which it already is in some regions). This thesis contributes to the literature that assesses these impacts the “system and market integration” literature. This thesis aims at answering the question: What is the impact of wind and solar power variability on the economics of these technologies? It will be laid out that the impact can be expressed in (at least) three ways: as reduction of value, as increase of cost, or as decrease of optimal deployment. Translating between these perspectives is not trivial, as evidenced by the confusion around the concept of ‘integration costs’. Hence, more specifically: How does variability impact the marginal economic value of these power sources, their optimal deployment, and their integration costs? This is the question that this thesis addresses. This study comprises six papers, of which two develop a valuation framework that accounts for the specific characteristics of the good electricity, and the specific properties of wind and solar power versus “dispatcha- ble” power plants. Three articles then assess quantitative questions and estimate marginal value, optimal deployment, and integration costs. These estimates stem from a newly developed numerical power market model, EMMA, market data, and quantitative literature reviews. The final paper addresses market design. In short, the principal findings of this thesis are as follows. Electricity is a peculiar economic good, being at the same time perfectly homogenous and heterogeneous along three dimensions - time, space, and lead-time. Electricity’s heterogeneity is rooted in its physics, notably the fact it cannot be stored. (Only) because of heterogeneity, the economics of wind and solar power are affected by their variability. The impact of varia- bility, expressed in terms of marginal value, can be quite significant: for example, at 30% wind market share, electricity from wind power is worth 30-50% less than electricity from a constant source, as this study esti- mates. This value drop stems mainly from the fact that the capital embodied in thermal plants is utilized less in power systems with high VRE shares. Any welfare analysis of VRE needs to take electricity’s heterogene- ity into account. The impact of variability on VRE cannot only be expressed in terms of marginal value, but also in terms of costs, or in terms of optimal deployment. The mentioned value drop corresponds to an in- crease of costs by 30-50%, or a reduction of the optimal share by two thirds. These findings lead to seven policy conclusions: 1. Wind power will play a significant role (compared to today). 2. Wind power will play a limited role (compared to some political ambitions). 3. There are many effective options to integrate wind power into power systems, including transmission investments, flexibilizing thermal generators, and advancing wind turbine design. Electricity storage, in contrast, plays a limited role (however, it can play a larger role for integrating solar). 4. For these integration measures to materialize, it is important to get both prices and policies right. Prices need to reflect marginal costs, entry barriers should be tiered down, and policy must not shield agents from incentives. 5. VRE capacity should be brought to the system at a moderate pace. 6. VRE do not go well together with nuclear power or carbon capture and storage these technologies are too capital intensive. 7. Large-scale VRE deployment is not only an efficiency issue, but has also distributional consequences. Re-distribution can be large and might an important policy driver. 8 Summary Zusammenfassung 9 Zusammenfassung Die Variabilität von Wind- und Solarenergie hat signifikanten Einfluss auf Stromsysteme und Elektrizitäts- märkte, sobald diese Technologien in signifikantem Maßstab Anwendung finden. Im weltweiten Durch- schnitt erzeugen solche „variablen Erneuerbaren“ heute zwar nur 2.5% der elektrischen Energie, aber alle Prognosen weisen auf eine zunehmende Bedeutung hin und eine Reihe von Ländern erreicht schon heute Wind- und Solaranteile von 20% oder mehr. Diese Doktorarbeit trägt zu System- und Marktintegrations- Literatur bei, die die Effekte der Variabilität untersucht. Welchen Einfluss hat die Variabilität von Wind- und Solarenergie auf die Wirtschaftlichkeit dieser Techno- logien? Der Einfluss lässt sich in (mindestens) drei Perspektiven darstellen: als Reduktion des ökonomischen Wertes (Grenznutzen) von Windstrom, als Anstieg der Erzeugungskosten, und als Reduktion des wohlfahrts- optimalen Ausbaus. Zwischen diesen drei alternativen Perspektiven zu übersetzen ist nicht trivial, wie die Unklarheiten und Missverständnisse um das Konzept von „Integrationskosten“ belegen. Deshalb die For- schungsfrage, noch einmal, präzisiert: Wie beeinflusst die Variabilität von Wind- und Solarenergie den Wert, die optimale Menge, und die Integrationskosten dieser Technologien? Diese Studie besteht aus sechs eigenständigen Artikeln. Zwei davon entwickeln einen ökonomischen Analy- serahmen, in dessen Zentrum die spezifischen Eigenschaften des Gutes Strom sowie die spezifischen Eigen- schaften von Wind- und Solarenergie als Stromerzeuger stehen. Im Anschluss untersuchen drei Artikel quan- titative Fragen und schätzen den Wert und den optimalen Ausbau von variablen Erneuerbaren. Diese Artikel basieren auf dem dafür entwickelten numerischen Strommarktmodell EMMA, auf einer ökonometrischen Auswertung empirischer Marktdaten, sowie einer quantitativen Metastudie der publizierten Literatur. Der letzte Artikel befasst sich mit Fragen des Marktdesigns. Die zentralen Ergebnisse lassen sich wie folgt zusammenfassen. Strom ist ein spezielles ökonomisches Gut, das gleichzeitig perfekt homogen und heterogen ist. Strom ist entlang dreier Dimensionen heterogen: Zeit, Raum, und Vorlaufzeit. Diese Heterogenität ergibt sich aus der Physik von Elektrizität, insbesondere ihrer Nicht-Speicherbarkeit. Als unmittelbare Konsequenz beeinflusst die Variabilität von Wind und Solar deren Wirtschaftlichkeit.
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