TOP-DOWN VS. BOTTOM-UP MODELS: HOW TO COMBINE THEM TO EVALUATE THE COST OF MID-TERM CO 2 EMISSION REDUCTION?

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1 TOP-DOWN VS. BOTTOM-UP MODELS: HOW TO COMBINE THEM TO EVALUATE THE COST OF MID-TERM CO 2 EMISSION REDUCTION? Y. NAGATA Senior Research Scientist Central Research Institute of Electric Power Industry , Iwado-kita, Komae-shi, Tokyo , Japan Phone: , nagata@criepi.denken.or.jp Y. MORI JKL Inc , Sarugakucho, Chiyoda-ku, Tokyo , Japan Phone: , yuko-mori@j. .ne.jp Introduction In June 2008, the former Prime Minister T. Aso announced to set the reduction target for GHGs emissions for Japan in 2020 to be 85% level in 2005 (92% level in 1990) (Aso (2009)). At a glance, this target is just a small gain compared with the target of the Kyoto Protocol (94% level in 1990 during average), however, it is really a severe target because it does not include the absorbed CO 2 emission by forests and the reductions by purchased emissions credits from other countries. During the process for determining this mid-term target, various energy and economic models were used to analyze the cost to achieve the six quantitative targets of CO 2 emissions at the committee of the government in Another point that should be pointed out about the mid-term target is that the period until the target year is only in ten years and available portfolios are quite limited. Due to this reason, like a solar photovoltaic power (PV), technologies whose unit CO 2 reduction cost are quite expensive, should be largely introduced to achieve the considerable reduction. We have been engaging in the energy system analysis by employing the Japanese Hydrogen Energy Model (J-HEM) (Nagata and Mori (2007) and (2008)). We incorporate the innovative energy technologies for reducing energy-related CO 2 emission into this model, and analyze the long-term cost of CO 2 reduction quantitatively. This study evaluated the cost of CO 2 reduction for the six targets of the government by the J-HEM. Moreover, various issues on model analysis were indicated through the comparison with the results by other models. Model Structure The structure of J-HEM is shown in Figure 1. The net energy demand in the industrial sector and the energy service demand in the transportation and buildings sectors are exogenously given. This model covers various energy conversion technologies (fuel conversion, power generation, and technology employed in vehicles), including hydrogen and fuel cell technologies. The introduction and utilization of these technologies that will minimize the discounted present value of total expenditure in energy supply for various constraints, such as the maximum primary energy supply (reserves of fossil fuels), energy balance, electricity load curve, and CO 2 emissions, will be determined by using linear programming techniques. The amounts of 15 kinds of primary energy and CO 2 emissions are calculated simultaneously (Table 1). Energy prices are exogenously given because almost the entire amount of fossil fuels consumed in Japan is imported. The load duration curve of electricity is divided into three time patterns (peak, middle, and base) and the efficiency of each power generation technology for different loads is determined initially. 1

2 Crude Oil Natural Gas Renewable Energy Coal Biomass Nuclear Fuel Byproduct H2 Primary Energy (Price and Maximum Supply) Oil Refinery Thermal Power Pant LWR Large Scale Off-Site H2 Production Facility Petroleum City Gas Electricity Biofuel Hydrogen H2 Production H2 Refuelling Station Conventional Car Hybrid Car Plug-in Hybrid and Electric Car Fuel Cell Car FC Cogeneration (with Reformer) FC Cogeneration (No Reformer) Heat Pump Water Heater Objective Function : Minimizing Discounted Total Energy Supply Cost Major Limitation : Maximum of Primary Energy Supply, Energy Balance (Demand<Supply), Electricity Load Curve (3 Time Zone), CO2 Emissi on Transformer Industry (Energy Demand by Energy Type) Transportation (Energy Demand except for Car) Transportation (Transportation Demand for Car) Residential and Commercial Sector (Electricity and Heat Demand by Use) Energy Service Demand Secondary Energy Figure 1. Structure of Japanese Hydrogen Energy Model (J-HEM) Table 1. Scope of J-HEM Item Region Time range and calculating interval Energy demand Primary energy Final energy Vehicle technologies Power generation technologies (Except for renewable energy) On-site energy utilization technologies Supply of renewable energy Load duration curve of electricity Energy conservation Scope Japan (3 regions only in residential sectors) , 6 points (every 10 years) Exogenous (service demand in transport and building sectors) 15 types (coal, oil (6 types), gas, renewable energy source (5 types), nuclear fuel, and byproduct hydrogen) 12 types (coal, oil (5 types), gas (2 types), electricity, heat, hydrogen, and biofuels) 5 types (conventional, HV, PHEV, EV, and FCV) 9 types (coal-fired (4 types, one of them has a CCS option), oil-fired, gasfired (3 types), and nuclear) Conventional system, stationary fuel cell cogeneration (building sector only, and heat pump water heater (residential sector only) Exogenous for geothermal, PV, and wind power generation Endogenous for hydropower and biomass power generation *1 Considered (approximation using 3 time patterns function) Considered (demand changed by using assumed price elasticity) Considering the recent developments in the energy technology, important factors have been incorporated from previous studies. They are plug-in hybrid cars, the use of biofuels in the transportation sector, and carbon capture and storage (CCS). It is assumed that a carbon capture facility can be attached to a newly constructed IGCC power plant because technology comprising carbon capture would be the cheapest technology among the technologies using fossil fuels for power generation (IPCC (2007)). The upper limits of the number of alternative fuel vehicles produced are also taken into consideration. Although the installed capacities of photovoltaic power and wind power are exogenously given, the costs of these technologies are taken in to account. However, additional costs for maintaining grid power reliability may be required for large-scale installation of these intermittent renewables. A trial calculation by the government evaluated at least 230 GWh of battery will be required for 53 GW of PV installation in 2030 and the cost will be trillion yen (present value of 2008 price), if the cost of battery is 25 thousand yen/kwh (METI (2009a)). This kind of additional cost is not considered in this study. Case Settings and Presuppositions Case Settings 2

3 Eight cases were calculated and main difference between them was the upper limits of energy-related CO 2 emission. Other differences are installed capacity of photovoltaic power and the upper limits of ownership rate of next generation vehicles. Figure 2 shows the upper limits of energy-related CO 2 emission in each case. Same reduction targets of energy-related CO 2 emission in 2020 with those of the committee of the government were set (case 1-6). The case 3 is the Aso s decision and 1% severer than the chiefly by doubling the introduction of photovoltaic power. The case 6 was not calculated because its target was too severe and our model could not find a feasible solution. Therefore, the case 6 is chosen instead of it. After 2020, we also set upper limits of energy-related CO 2 emission because energy conversion technologies like power plants have long duration time. The target in 2050 is the minimum value that our model can obtain and energy-related CO 2 emission will be reduced to be Mt-CO 2 (52.9% level in 2005). Besides these cases, the case where current CO 2 reduction efforts will be extended is considered (the line of case in Figure 2 is the calculated result). Mt-CO Case Figure 2. Upper Limits of Energy-related CO 2 Emission in the Calculated Cases Presuppositions Assumptions for main variables are given in Table 2. Energy prices in the italic form are same as the governmental committee s assumption and the values in 2010 and after 2030 are interpolated with the values in 2005 and 2020 and extrapolated with the values in 2020 and 2030 respectively. The assumption of energy demand is based on the Technology Frozen Case of recent outlook by METI (2008), because we thought this case most faithfully reflects future increase in energy service demand. Final energy demands were converted to energy service demand in the residential and commercial sectors by multiplying the assumed efficiency of the appliances (300% for electric air conditioner, 90% for gas air conditioner, and 78% for other heat demand). We did not incorporate efficient energy technologies for kitchen usage and electric appliances except for air conditioners and water heaters, and final energy demand by each type of energy will remain unchanged. However, improvements in energy efficiency could be achievable by efficiency standards, and 1% reduction annually was assumed for the demand of electric appliances in the commercial and residential sectors. Nuclear is a cheap and CO 2 -free option and it will be installed maximally in all cases. As mentioned before, installed capacity of photovoltaic power and the upper limits of ownership rate of next generation vehicles are differently assumed between the cases as shown in Table 2. 3

4 Table 2. Assumptions for Main Variables and Case Settings Unit Energy Price *1 Crude oil and $/bbl Petroleum products $/TOE LNG $/TOE Coal $/TOE Energy Demand Industry MTOE/year Residential MTOE/year Commercial MTOE/year Transportation MTOE/year Nuclear power Capacity GW Capacity factor % Photovoltaic GW Capacity GW GW GW GW GW GW Case 6 GW Upper limits of, Owner % ownership rate of Owner % next generation, 3 Owner % vehicles, 5, 6 Owner % *1 Real prices in Exchange rate is assumed to be 1$=110yen. The assumptions on power generation technologies are shown in Table 3. Construction costs of power plant in Japan are usually more expensive than in other countries on account of severer standards for earthquake-resistant design and environment. Therefore, these cost data are derived from the reports of governmental committee. The cost of CCS is assumed to be 7,000 yen/t-co 2 avoided by METI (2007) throughout the period. Other technological and cost assumptions for conventional and advanced technologies are already reported (Nagata and Mori (2007) and (2008)) and not included in this paper. Table 3. Technological and Cost Assumptions for Power Generation Generating efficiency (HHV) O&M cost (yen/kwh) Construction cost (thousand yen/kw) Maximum capacity factor Available year Lifetime (year) Operational Construction Load limit (P, M, B) *1 (%/period) Coal USC 41.8% % IGCC 48.9% % IGCC+CCS *2 30.6% % IGFC 56.1% % Oil 39.4% % Natural Gas CC 48.4% % MACC 53.0% % Biomass *3 20.0% % Nuclear % Hydro * % *1 For example, 011 means the plant can be operated in middle and base loads and cannot in the peak load. *2 Assumed that 90% of CO 2 is collected from the flue gas. *3 Assumed that upper limit is 10% of total generated power. *4 Assumed that upper limit is 89.5TWh in 2020 and 94.2TWh after 2030, respectively. Source: METI (2003), METI (2007), METI (2008) and other reports. 4

5 Results Technology Choice There is no difference in technology choice in 2050 because CO 2 emissions in all CO 2 restricted cases are same. Therefore, we mainly focus on the year 2020 and Figure 3 and Figure 4 show power generation mix and the composition of next generation vehicles in 2020 and 2030 respectively. According to the upper limit of CO 2 emission, generated power by coal (pulverized (PFC) and IGCC) will decrease and gas power (LNG CC and MACC), biomass, hydro, and PV (exogenous) will increase in We assumed that advanced technologies such as IGCC+CCS and IGFC will become available in 2020 and in 2030, and it will enable to lower the dependence on expensive gas power. In the transportation sector, the numbers of next generation vehicles in 2020 will remain about ten millions, even under the severest CO 2 emission constraint, mainly because of the existence of upper limit of their production. This constraint will be relieved in 2030, however, HVs will be mostly introduced and EVs and FCVs will be only introduced in the Case 6. On the other hand, heat pump water heater and on-site cogeneration systems will be introduced maximally in the residential sector in all cases, and there is no difference in technology choice. In the industry sector, we did not consider any technology change and CO 2 emission are same in all cases. 1,200 TWh Wind PV 1, Geothermal Hydro Nuclear Biomass MACC LNG CC 200 Oil 0 IGFC IGCC+CCS IGCC PFC in 2020 in 2030 Figure 3. Power generation Mix in 2020 and million Conventional Car FCV Short Dis. Truck FCV Bus FCV Pas. Car EV Subcompact PHEV Pas. Car 10 HV Short Dis. Truck 0 HV Pas. Ccar in 2020 in 2030 Not including taxis and diesel engine passenger cars Figure 4. Number of Vehicles in 2020 and

6 Marginal Cost of CO 2 Reduction Figure 5 shows the marginal costs of CO 2 reduction. In 2020, the costs in the and 2 will be very low because CO 2 emissions in these cases are almost same as that in the Case. It will reach 15,600-17,900 yen/t-co 2 ( $/t-co 2 ) in the, 3, and 4, and over 100,000 yen/t-co 2 (900 $/t-co 2 ) in the and 6. The reason why the marginal costs will drop in 2030 is that we assumed IGCC+CCS power generation will become available on a large scale and the relative severity of emission reduction will be relieved. The relationship between reduction rate of CO 2 and marginal cost is shown in Figure 6. Until 25% reduction rate, marginal cost is cheaper in future because of various reasons; (1) advanced technologies will become available, (2) price decrease in next generation vehicles will be expected, and (3) upper limits of next generation vehicles will be relieved. However, high marginal costs are inevitable if reduction rate will exceed 30% in each year. thousand yen/t-co Figure 5. Marginal Cost of CO 2 Reduction thousand yen/t-co In 2020 In 2030 In 2040 In % 0% 5% 10% 15% 20% 25% 30% 35% 40% Reduction Rate from the Case Figure 6. Relationship between Reduction Rate of CO 2 and Marginal Cost 6

7 Comparison of the Marginal Cost between the Governmental Study The governmental committee evaluated the marginal costs of CO 2 to be 10,099-18,332 yen/t- CO 2 in the, 28,430-46,764 yen/t-co 2 in the, and 61,029-87,667 yen/t-co 2 in the Case 6 respectively (Prime Minister of Japan and His Cabinet (2009)). Our results are almost same in the and higher in the and 6 (we calculated the Case 6 where the target was even milder than in the Case 6). We think one of this reasons comes from the method of evaluation. The governmental committee used both bottom-up engineering type models and top-down macroeconomic models, and the marginal costs shown before were the results of macroeconomic models. Macroeconomic models do not treat technologies explicitly and it is expected that the results of marginal costs did not evaluated correctly. This phenomenon will appear more remarkably in the mid-term emission reduction because remained time is limited and the government usually assumes the introduction of expensive but ready-to-use technologies, such as PV or high-insulated houses exogenously (Figure 7). CO 2 Constraint Policy, Time Limitation, etc. Energy Technology Database Link Bottom-up Engineering Models Exogenously Assumed Introduction (PV, Insulation, etc.) No Explicit Link Required Introduction of Advanced Technologies and Their Costs Expensive Top-down Macroeconomic Models Economy-wide Marginal Costs Relatively Cheap Figure 7. Schematic Image of the Use of Top-down and Bottom-up Models for CO 2 Reduction We must pay attention that this manner of usage combination of the top-down models and bottom-up models will comprise theoretical inconsistency. In theory, marginal cost of CO 2 reduction should be equal to the cost of most expensive technology/measure. Because the introduction of PV is exogenously assumed, it means that economy-wide marginal cost of CO 2 reduction in each case should be equal or more expensive than the marginal cost of PV. According to the IEEJ (2009), this was one of the members of the governmental committee, marginal cost of PV exceeds 1,200US$/t-CO 2. The costs to achieve the Aso s target until 2020 (same as the ) are also estimated to be thousand yen/t-co 2 (Table 4) by METI (2009b) and they are still expensive even if they are divided by the periods that the reduction effects will last (typically 5-20 years). However, the announced marginal costs were extremely cheaper than it because the committee chose the results of marginal costs by the top-down models. On the other hand, our calculation only considered the reduced CO 2 by PV and does not include its marginal cost. This is why our results of marginal cost did not expensive so high. Thus, it is quite important to understand the differences in the costs of CO 2 reduction that are estimated by the macroeconomic models and bottom-up engineering calculation. The efforts of integrating these models have been made (for example, Homma (2005)), but we think it is difficult to apply it for mid-term analysis because exogenous limitations related to time are too severe. We think the realistic solution to it is to recognize the process and methodological limits that the marginal costs are derived. 7

8 Option Table 4. Rough Estimate of the Cost to Achieve the Aso s Target until 2020 Outline Cost (trillion yen) [A] Reduction (Mt-CO 2 ) [B] Unit Cost (thousand yen/t-co 2 ) [A/B] Next generation 50% of sales (700 thousand yen/car x 15 million vehicles trillion yen for preparing infrastructure) PV 28GW (20 times more in 2005) installation (1.5 million yen/house x 5.3 million houses) Thermal insulation 80-90% of newly constructed buildings will of buildings achieve the standard of thermal insulation Home electric Penetration of efficient air conditioners, LCD appliances TVs, refrigerators, and lighting appliances, etc Efficient hot water Penetration of 28 millions of heat-pump, latent heaters heat recovery type, and fuel cell CGSs Energy saving of IT Improving the efficiency of rooters, servers, and appliances storage devices, etc Cogeneration and Penetration of cogeneration systems in the fuel cells industry sector and fuel cells 2 n.a. Advanced steel Penetration of forefront technologies such as the production SCOPE21 type coke oven Wind power 5GW (5 times more in 2005) installation 1 n.a. Advanced chemical Penetration of forefront technologies such as technologies inter heat exchange type distillation tower, etc Transportation flow Promotion of intelligent transport systems (ITS), improvement Improving the efficiency of truck transportation n.a. 16 Advanced industry Penetration of efficient industry furnace and furnace, etc. boiler, etc. n.a. 3 Source: METI (2009b). Conclusions This study has analyzed the cost and effectiveness of various advanced energy supply and utilizing technologies in reducing CO 2 emissions by the year 2050 by employing the Japanese Hydrogen Energy Model (J-HEM). The results show that mid-term marginal costs to achieve Aso s target in 2020 is around 16,000 yen/t-co 2 and this value was almost comparable with the results that were evaluated by the governmental committee. However, if we look precisely, this coincidence does not confirm the appropriateness of estimated results by the governmental committee. Conversely, it disclosed the issues of model analysis. Combined use of the top-down models and bottom-up models is a realistic manner for policy makers to analyze the costs and required measures to determine the mid-term target of CO 2 emission reduction. However, it is difficult to assess the marginal costs of expensive but ready-to-use technologies by these different type models and we must pay attention to the process and the results. Another important point for determining the mid-term target of CO 2 emission reduction would be time constraint. In September 2009, current cabinet by the Democratic Party of Japan announced more ambitious target of reducing GHGs to the 75% level of 1990 in 2020 at the 64 th United Nation General Assembly. However, available options are limited until 2020 and setting a too ambitious target will suffer us serious energy cost increase. Current government of Japan should re-assess the costs of this target and explain it to the citizen including the process and methodological limits. Acknowledgement The authors are grateful to Mr. Katsura Fukuda, Mitsubishi Research Institute Inc. (MRI), for his valuable suggestions on constructing the model and carrying out the simulations. 8

9 References Aso, T. (2009), Speeches and Statements by Prime Minister of Japan. ( Homma, T., et al. (2005), A multi-regional and multi-sectoral energy-economic model for the assessment of the carbon emission reduction policy, Proceedings (CD- ROM) of the 28 th IAEE International Conference, International Association for Energy Economics. IEEJ (2009), Analyzed Results by the IEEJ Japan Model, Attached Report of the Choices for the Mid-Term Target of Global Warming, Prime Minister of Japan and His Cabinet (in Japanese). ( IPCC (2007), Energy Supply in Climate Change 2007: Mitigation, Contribution of Working Group III to the Fourth Assessment Report of the Intergovernmental Panel on Climate Change, Intergovernmental Panel on Climate Change, Cambridge University Press, Cambridge, United Kingdom and New York, NY, USA, METI (2003), Comparison of the Costs of Power Generation Methods by a Model Calculation (in Japanese). ( METI (2007), CCS Japanese R&D Policy on CO 2 Capture and Its Geological Storage. ( METI (2008), Outlook for Long-Term Energy Supply and Demand. ( METI (2009a), Establishing a Low Carbon Power Supply System, Report by the Study Group on Low Carbon Power Supply System (in Japanese) ( METI (2009b), A Trial Calculation of CO 2 Reduction by the Major Options in the Maximum Reduction Case in the Revised Outlook for Long-Term Energy Supply and Demand, Report presented at the 1 st Meeting of Energy Supply and Demand Subcommittee, Advisory Committee on Energy and Natural Resources (in Japanese) ( Nagata, Y. Mori, Y. (2007), The Role of Hydrogen to Build a less CO 2 Society for Japan, Proceedings (CD-ROM) of the 9 th IAEE European Energy Conference, International Association for Energy Economics. Nagata, Y. Mori, Y. (2008), The Cost to Build a Less CO 2 Society for Japan, Proceedings (CD-ROM) of the 31 st IAEE International Conference, International Association for Energy Economics. Prime Minister of Japan and His Cabinet (2009), The Choices for the Mid-Term Target of Global Warming (in Japanese). ( 9