A Principal-Agent model for optimal incentives in renewable investments

René Aïd, A. Kemper and N. Touzi
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René Aïd: FiME Lab - Laboratoire de Finance des Marchés d'Energie - Université Paris Dauphine-PSL - PSL - Université Paris Sciences et Lettres - CREST - EDF R&D - EDF R&D - EDF [E.D.F.] - EDF – Électricité de France, LEDa - Laboratoire d'Economie de Dauphine - IRD - Institut de Recherche pour le Développement - Université Paris Dauphine-PSL - PSL - Université Paris Sciences et Lettres - CNRS - Centre National de la Recherche Scientifique
A. Kemper: Computer Science Department - UniPi - University of Pisa [Italy] = Università di Pisa [Italia] = Université de Pise [Italie], CCSE - Center for Computational Sciences and Engineering [LBNL Berkeley] - LBNL - Lawrence Berkeley National Laboratory [Berkeley]

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Abstract: In this paper, we investigate the optimal regulation of energy production in alignment with the long-term goals of the Paris Climate Agreement and analyze the optimal regulatory incentives to foster the development of nonemissive electricity generation when the demand for power is met either by a single firm or by two interacting agents. The regulator aims to encourage green investments to limit carbon emissions while simultaneously reducing the intermittency of total energy production. We find that the regulator can achieve a higher certainty equivalent by regulating two interacting firms, each investing in one technology, rather than a single firm managing both technologies. This higher value is achieved thanks to a greater degree of freedom in the incentive mechanisms, which involve cross-subsidies between firms. Moreover, we find that it is optimal to compensate firms for shutting down their emissive production assets. We provide closed-form expressions of the second-best contracts and show that they take a rebate form, involving time-dependent prices for each state variable. A numerical study quantifies the impact of the designed second-best contract in both market structures compared to the business-as-usual scenario.

Keywords: Principal-agent; optimal regulation; renewable energy (search for similar items in EconPapers)
Date: 2025
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Published in International Journal of Theoretical and Applied Finance, 2025, 28 (01n02)

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Persistent link: https://EconPapers.repec.org/RePEc:hal:journl:hal-05446634

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