Researchers Silke Johanndeiter, Jonas Finke, and Justus Heuer from the University of Duisburg-Essen in Germany have explored how different designs of Contracts for Difference (CfDs) can impact the profitability of renewable energy projects and electricity prices for consumers. Their study, published in the journal Energy Economics, focuses on the role of CfDs in mitigating risks associated with weather, technology, and regulatory uncertainties in electricity markets with high levels of renewable energy.
Contracts for Difference are financial agreements between governments and renewable energy generators. They aim to stabilize revenues for renewable energy projects by making payments based on the difference between a predetermined strike price and a reference market price. The researchers examined three different CfD designs to understand their effects on wind power profits and consumer price volatility in a highly renewable, sector-coupled electricity market.
The study first analytically derived optimal strike prices under conditions of uncertainty. It then numerically determined optimal strike prices based on market expectations derived from optimizing 36 different market scenarios using an energy system model. Finally, the researchers analyzed the distribution of market revenues, CfD payments, and consumer prices across all scenarios.
The findings indicate that all CfD designs significantly reduce volatility compared to purely market-based consumer prices and investor profits. For consumer prices, the study found no substantial differences between the different CfD designs. However, for investor profits, the highest volatility reduction was observed under a capacity-based CfD with a reference price similar to the individual market revenues of power plants.
This research highlights a trade-off between incentivizing system-friendly investments and reducing investor risk. While capacity-based CfDs can reduce investor risk, they may also diminish the effect of price signals on investment decisions. The study provides valuable insights for policymakers and energy market participants on how to design CfDs to balance these competing objectives.
The research was published in the journal Energy Economics, offering a nuanced look at the practical applications of CfDs in the energy sector.
This article is based on research available at arXiv.