Consumer-based Carbon Costs: Integrating Consumer Carbon Preferences in Electricity Markets

Abstract

An increasing share of consumers care about the carbon footprint of their electricity. This paper analyzes a method to integrate consumer carbon preferences in the electricity market-clearing by introducing consumer-based carbon costs and a carbon allocation mechanism. Specifically, consumers submit not only bids for power but also assign a cost to the carbon emissions incurred by their electricity use. The carbon allocation mechanism then assigns emissions from generation to consumers to minimize overall carbon costs. Our analysis starts from a previously proposed centralized market clearing formulation that maximizes social welfare under consideration of generation costs, consumer utility, and consumer carbon costs. We then derive an equivalent equilibrium formulation that incorporates a carbon allocation problem and gives rise to a set of carbon-adjusted electricity prices for both consumers and generators. We prove that the carbon-adjusted prices are higher for low-emitting generators and consumers with high carbon costs. Further, we prove that this new paradigm satisfies the same desirable market properties as standard electricity markets based on locational marginal prices, namely revenue adequacy and individual rationality, and demonstrate that a carbon tax on generators is equivalent to imposing a uniform carbon cost on consumers. Using a simplified three-bus system and the RTS-GMLC system, we illustrate that consumer-based carbon costs contribute to greener electricity market clearing both through generation redispatch and demand reductions.