Integrating Environmental Costs Into Power Plant Bidding: A Pathway to Sustainable Energy Transition

Abstract

The current structures of the electricity market are criticized in this article for failing to internalize the external costs of carbon emissions from thermal power plants. It highlights the shortcomings of the two main policy instruments—carbon taxes and carbon trading. While carbon taxes are frequently too low to bring about meaningful change, particularly in capital-intensive industries like power generation, emissions trading schemes set overall caps but do not encourage reductions beyond the targets. By recalculating marginal costs using heat rates and input-output curves, the author suggests bridging this gap by incorporating environmental costs into power plant bidding prices. This method changes dispatch priorities according to actual societal costs and openly accounts for externalities as shown using data from the U.S. Department of Energy on five fossil fuel generation technologies. Moreover, screening curve analysis is carried out to show the overall economics of these technologies when the carbon costs are added. Using IEEE-118 fossil fuel data, the study shows more than ${\$}$ 20/MWh cost gap between the average and marginal costs for some plants when CO2 is priced at ${\$}$ 50/ton. It calls for policies mandating emission disclosure and integrating environmental costs into decisions to penalize polluters and drive a lasting shift toward cleaner energy and climate alignment.