Scandinavian Working Papers in Economics

Working Paper Series,
Research Institute of Industrial Economics

No 1387: Strategic Reserves versus Market-wide Capacity Mechanisms

Pär Holmberg () and Thomas Tangerås ()
Additional contact information
Pär Holmberg: Research Institute of Industrial Economics (IFN), Postal: Research Institute of Industrial Economics, Box 55665, SE-102 15 Stockholm, Sweden
Thomas Tangerås: Research Institute of Industrial Economics (IFN), Postal: Research Institute of Industrial Economics, Box 55665, SE-102 15 Stockholm, Sweden

Abstract: Many electricity markets use capacity mechanisms to support generation owners. Capacity payments can mitigate imperfections associated with “missing money” in the spot market and solve transitory capacity shortages caused by investment cycles, regulatory changes, or technology shifts. We discuss capacity mechanisms used in different electricity markets around the world. We argue that strategic reserves, if correctly designed, are likely to be more efficient than market-wide capacity mechanisms. This is especially so in electricity markets that rely on substantial amounts of intermittent generation, hydropower, and energy storage whose available capacity varies with circumstances and is difficult to estimate.

Keywords: Capacity mechanism; Market design; Reliability; Resource efficiency

JEL-codes: D25; D47; Q40; Q48

34 pages, April 6, 2021

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