Improving the Representation of Energy Efficiency in an Energy System Optimization Model

TL;DR

This paper enhances energy system optimization models by integrating microeconomic principles to better represent energy efficiency, enabling more accurate policy analysis of subsidies versus carbon taxes.

Contribution

It introduces a new model structure that aligns energy efficiency representation with microeconomic theory, improving policy impact assessments.

Findings

Efficiency subsidies recover less than 50% of welfare gains compared to carbon taxes.

The revised model captures substitution effects between electricity and conventional technologies.

Policy implications show the importance of considering consumer decision-making in energy models.

Abstract

Energy system optimization models (ESOMs) are designed to examine the potential effects of a proposed policy, but often represent energy-efficient technologies and policies in an overly simplified way. Most ESOMs include different end-use technologies with varying efficiencies and select technologies for deployment based solely on least-cost optimization, which drastically oversimplifies consumer decision-making. In this paper, we change the structure of an existing ESOM to model energy efficiency in way that is consistent with microeconomic theory. The resulting model considers the effectiveness of energy-efficient technologies in meeting energy service demands, and their potential to substitute electricity usage by conventional technologies. To test the revised model, we develop a simple hypothetical case and use it to analyze the welfare gain from an energy efficiency subsidy versus a carbon tax policy. In the simple test case, the maximum recovered welfare from an efficiency subsidy is less than 50% of the first-best carbon tax policy.