Climate change and electricity transmission : an empirical study with indication of some theoretical consequences

In an economy like the Norwegian, where most of the energy is supplied by hydro power plants and the outdoor temperatures are very fluctuating, the domestic supply and the demand for energy can be expected to depend on climatical phenomena such as precipitation and temperature. This thesis will indicate how a change in the statistical distribution of the demand for electricity transmission capacity with the neighbouring countries, having their energy supply less directed by the weather, is likely to be affected by some of the consequences of global warming. The initial statistical model estimates the chosen climatical variables’ effect on net import. It turned out that the regression model of monthly net import on its first lag and lagged precipitation, explaining supply, and an aggregate of monthly temperatures, explaining demand, fitted the sample data well. However, the demand for transmission capacity depends on the distribution of transmission at points in time, and not the monthly average of net import. At all points in time the transmitted quantity will equal the absolute value of net import, so the estimated net import distribution were used to infer the transmission demand distribution. When the marginal costs of meeting the demand are different from the benefits, the optimal level of the transmission capacity depends on the demands’ volatility as well as its expectation. By the so-called “Newsboy model”, optimal capacity would be at a level where the probability of demand not being met equals the ratio of marginal costs to marginal benefits. When these are exogenously given and the demand distribution is known, the optimal capacity will equal the mean demand plus a fraction of its standard deviation depending on the cost benefit ratio. However, if the costs or benefits are non-linear functions of capacity it gets more complicated. A by-product of higher transmission capacity is that the losses for a given quantity of electricity will fall since the capacity utilisation falls. This will increase the average benefit of transmission since more of the transmitted energy becomes available to the consumers. However, what matters for the optimal capacity is the marginal benefit, which is less likely to change. The other part of the marginal benefit of the ability to meet demand is the reduction in the penalty for not meeting demand. This is defined as the quantity that would be desirable to transmit, multiplied by the price difference, and shared equally between the markets separated by limited transmission capacity. At both sides of the border the price level is determined by the generator with the highest marginal costs. When these costs vary there would be efficiency gains by generating more at the low cost side, less at the other; and transmitting the difference. A marginal increase in transmission capacity would allow a marginal reduction in the production by the high cost side and a marginal increase at the low cost sides; reducing the price difference as well as the size of the bottleneck. Thus the marginal benefit of transmission would be an increasing function of capacity and the newsboy solution will understate the optimal capacity. The conclusion of the empirical study was that the monthly transmission demand standard deviation increased less than proportionately with the standard deviations in the explanatory climatical variables. Without having any estimate of the likely order of magnitude of their future increase, an eventual increase the cost of keeping the transmission at its optimal level cannot be estimated. However, the direction of the capacity cost change is unambiguous, if the weather becomes more volatile, net electricity import gets more volatile as well. Hence the optimal transmission capacity will increase unless the expected net import falls sufficiently to compensate it. Nevertheless, the global warming is likely to cause a more humid and warmer climate, and according the signs of the coefficients in the net import equation this will reduce energy demand and increase its supply. Consequently the total effect of the climate change on the costs of keeping the transmission capacity at its optimal level remains undetermined