Contracting for Long-Duration Energy Storage in Incomplete Risk Markets

Adam Suski, Elina Spyrou, Jacob Mays, Richard Green

Long-duration energy storage (LDES) is increasingly regarded as essential for reliability in decarbonized power systems. To encourage investment, policymakers introduce contracts, such as cap-and-floor schemes. So far, these schemes have only been evaluated using exogenous revenue or price distributions. This paper develops a two-stage stochastic equilibrium model to evaluate how LDES cap-and-floor design affects investment and market outcomes. This model endogenously captures the interactions among contract design, investment capacity, and cost of capital. Results for a stylized Great Britain case study show that market incompleteness substantially suppresses LDES investment. Centrally administered zero-premium contracts can restore the risk-neutral investment level by reducing downside risk, but doing so requires substantial expected transfers from consumers to investors and produces outcomes that are sensitive to the cap, floor, and sharing parameters. Bilaterally negotiated contracts largely eliminate expected transfers and reduce sensitivity to those parameters, but provide weaker investment incentives. To balance investment incentives, transfers, and social welfare, policymakers should jointly consider contract and institutional design.