Is it still economic to build a new coal-fired power plant in the U.S.? A real option analysis |
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Authors: | Sang Baum Kang Pascal Létourneau Steven X Sala |
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Institution: | 1. Stuart School of Business, Illinois Institute of Technology, Chicago, USA;2. Department of Finance and Business Law, University of Wisconsin-Whitewater, Whitewater, USA;3. Bank of America Merrill Lynch, Chicago IL, USA |
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Abstract: | In the U.S., virtually no new coal-fired power plants have been built in recent years. Both industry experts and academics seem to believe that no rational firm will build a new coal-fired plant. Will such a trend continue in the future? To provide insights into this question, we investigate the optimal decision of an electricity company with an irreversible and deferrable opportunity to build either a new coal-fired or natural gas-fired power plant as its new base-load resource. According to our real option analysis, the optimal decision depends on the location. In the case of the eastern U.S., it is optimal to choose a natural gas plant if a firm is given a choice among a new natural gas plant, a new coal plant and deferring the investment. However, contrary to the common sentiment in the industry and academia, building a new coal plant in the western U.S. is still more economical than building a new natural gas plant in the absence of emission pricing. Furthermore, introducing carbon pricing to western U.S. states, as California did, can substantially increase the probability that a firm will optimally choose a natural gas plant over a coal plant. |
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Keywords: | Real option green policy emission market coal plant natural gas plant |
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