Contract design in electricity markets with high penetration of renewables: A two-stage approach

The interplay between risk aversion and financial derivatives has received increasing attention since the advent of electricity market liberalization. One important challenge in this context is how to develop economically efficient and cost-effective models to integrate renewable energy sources (RES) in the electricity market, which constitutes a relatively new and exciting field of research. This paper proposes a game-theoretical equilibrium model that characterizes the interactions between oligopolistic generators in a two-stage electricity market under the presence of high RES penetration. Given conventional generators with generation cost uncertainty and renewable generators with intermittent and stochastic capacity, we consider a single futures contract market that is cleared prior to a spot market where the energy delivery takes place. We introduce physical and financial contracts to evaluate their performance and assess their impact on the electricity market outcomes and examine how these depend on the level of RES penetration. Since market participants are usually risk averse, a coherent risk measure is introduced to deal with both risk neutral and risk averse generators. We derive analytical relationships between contracts, study the implications of uncertainties, test the performance of the proposed equilibrium model and its main properties through numerical examples. Our results show that overall electricity prices, generation costs, profits, and quantities for conventional generators decrease, whereas quantities and profits for RES generators increase with RES penetration. Hence, both physical and financial contracts efficiently mitigate the impact of uncertainties and help the integration of RES into the electricity system. However, each type of contract has different quantitative impacts on the market outcomes. Moreover, risk aversion increases profit and decreases generators’ risk under different levels of competition by shielding them from the risk associated with cost, demand, and RES uncertainties.