Climate Policy and Strategic Operations in a Hydro-Thermal Power System

Decarbonisation of the Nordic power sector entails substantial variable renewable energy (VRE) adoption. While Nordic hydropower reservoirs can mitigate VRE output's intermittency, strategic hydro producers may leverage increased flexibility requirements to exert market power. Using a Nash-Cournot model, we find that even the current Nordic power system could yield modest gains from strategic reservoir operations regardless of a prohibition on 'spilling' water to increase prices. Instead, strategic hydro producers could shift generation from peak to offpeak seasons. Such temporal arbitrage becomes more attractive under a climate package with a [euro] 100/t C[O.sub.2] price and doubled VRE capacity. Since the package increases generation variability, lowers average prices, and makes fossil-fuelled plants unprofitable, strategic hydro producers face lower opportunity costs in shifting output from peak to off-peak seasons and encounter muted responses from price-taking fossil-fuelled plants. Hence, a climate package that curtails C[O.sub.2] emissions may also bolster strategic hydro producers' leverage. Keywords: Electricity markets, Equilibrium modelling, Hydropower, Market power, Carbon policy
1. INTRODUCTION Future climate packages in OECD countries envisage deep decarbonisation of the power sector by relying upon variable renewable energy (VRE) sources, viz., wind and solar power. For example, [...]