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 proposes to integrate consumer carbon preferences in the electricity market-clearing through consumer-based carbon costs. Specifically, consumers can submit not only bids for power but also assign a cost to the carbon emissions incurred by their electricity use. We start from a centralized market clearing that maximizes social welfare under consideration of generation costs, consumer utility and consumer carbon costs. We then derive an equivalent equilibrium formulation which 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 reductions in demand.