Risk aversion in flexible electricity markets

TL;DR

This paper examines how flexibility options like demand response, storage, and interconnection influence investment risk and decisions in European electricity markets, highlighting the importance of risk aversion and interactions among flexibility measures.

Contribution

It provides a comprehensive analysis of the interactions between flexibility options and investment risk using a large-scale stochastic model, revealing how risk aversion affects investment in low-emission energy systems.

Findings

Risk aversion leads to more investment in low-emission energy systems.

Flexible technologies are more valuable for risk-averse planners.

Risk-averse planners favor transmission expansion when flexibility is low-cost.

Abstract

Flexibility options, such as demand response, energy storage and interconnection, have the potential to reduce variation in electricity prices between different future scenarios, therefore reducing investment risk. Moreover, investment in flexibility options can lower the need for generation capacity. However, there are complex interactions between different flexibility options. In this paper, we investigate the interactions between flexibility and investment risk in electricity markets. We employ a large-scale stochastic transmission and generation expansion model of the European electricity system. Using this model, we first investigate the effect of risk aversion on the investment decisions. We find that the interplay of parameters leads to (i) more investment in a less emission-intensive energy system if planners are risk averse (hedging against CO2 price uncertainty) and (ii) constant total installed capacity, regardless of the level of risk aversion (planners do not hedge against demand and RES deployment uncertainties). Second, we investigate the individual effects of three flexibility elements on optimal investment levels under different levels of risk aversion: demand response, investment in additional interconnection capacity and investment in additional energy storage. We find that that flexible technologies have a higher value for risk-averse decision-makers, although the effects are nonlinear. Finally, we investigate the interactions between the flexibility elements. We find that risk-averse decision-makers show a strong preference for transmission grid expansion once flexibility is available at low cost levels.