A Dynamic Incentive Mechanism for Transmission Expansion in Electricity Networks: Theory, Modeling, and Application
Posted: 16 Jul 2010
Date Written: June 2010
We propose a price-cap mechanism for electricity-transmission expansion based on redefining transmission output in terms of financial transmission rights. Our mechanism applies the incentive-regulation logic of rebalancing a two-part tariff. First, we test this mechanism in a three-node network. We show that the mechanism intertemporally promotes an investment pattern that relieves congestion, increases welfare, augments the Transco´s profits, and induces convergence of prices to marginal costs. We then apply the mechanism to a grid of northwestern Europe and show a gradual convergence toward a common-price benchmark, an increase in total capacity, and convergence toward the welfare optimum.
Keywords: Electricity transmission expansion, incentive regulation
JEL Classification: L51, L91, L94, Q40
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