Asymmetric risk and fuel neutrality in electricity capacity markets

In many liberalized electricity markets, power generators can receive payments for maintaining capacity through capacity markets. These payments help stabilize generator revenues, making investment in capacity more attractive for risk-averse investors when other outlets for risk trading are limited. Here we develop a heuristic algorithm to solve large-scale stochastic equilibrium models describing a competitive market with incomplete risk trading. Introduction of a capacity mechanism has an asymmetric effect on the risk profile of different generation technologies, tilting the resource mix towards those with lower fixed costs and higher operating costs. One implication of this result is that current market structures may be ill-suited to financing low-carbon resources, the most scalable of which have high fixed costs and near-zero operating costs. Development of new risk trading mechanisms to replace or complement current capacity obligations could lead to more efficient outcomes.