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Figure2-4. Profitforecastfrequencychart Modeling Behavior of Others Under Uncertainty As mentioned in the previous section,uncertainty can arise when trying to predict the economic decisions or actions of others (e.g., how will electricity consumers react to an increase in electricity price). The normative approach to this modeling issue would be to assume that dl parties within the population use the equivalent of decision analysis. Thereareatleasttwomajorproblemswiththisapproach. First,theapplicationofdecisionanalysiswithin amarketmodelwouldgenerallyinvolvefartoomuchefforttobepractical. Moreimportantly,thereis considerable evidence that energy consumers often behave very differently from the strict economic rationality assumption taken in the normative model. It is fair to say that no truly satisfactory solution to this modeling problem has emerged. Most common approaches begin with some kind of normative model and then adjust it in some way to make it better match observed data on consumer choice. For example, logit models are one way of handling the observed fact that the cheapest source does not capture 100% of the market (Packey 1993). Multinomial logits can account for decision makers' consideration of factors other than simply the economic value of an investment while capturing the uncertainties and variabilities of decision makers and investments. Another means of representing consumer behavior that deviates from the normative model is to increase the discount rate that consumers in the model use to evaluate energy equipment purchase decisions. Two rationales are commonly used for this approach. First, higher discount rates make projections of consumer choiceslookmoreliketheobserveddataonthesechoices. However,suchmodelprojectionsstillhave trouble comparing well with observed data because factors other thanenergy costs are critical in purchase decisions. Second, such higher discount rates are often used as an adjustment to capture the risk inherent in an investment. The risk-adjusted discount rate argument proceeds as follows. Investments in energy efficiencyorrenewableenergycanberisky. Oneresponsetotheevaluationofriskyinvestmentsisthe use of a discount rate higher than the one that is appropriate for risk-free investments (a risk-adjusted discount rate). Thus, the risk assumed by making investments that do not produce the anticipated remns is offset by investments producing this higher adjusted rate of return. 33PDF Image | A Manual for the Economic Evaluation of Energy Efficiency and Renewable Energy Technologies
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