A Probabilistic Approach to Wind Energy Generation Costs in Italy

ii 
 
 
 
 
 
 
Abstract 
This work undertakes a probabilistic analysis of the current private LUEC - Levelized 
Unit Energy Cost of electricity produced by large offshore and onshore wind power 
plants in Italy. The calculations of the implemented LUEC model use factors whose 
data was collected throughout relevant existing literature on the subject. The 
assumptions on the probability distributions of these factors are defined trough a 
best-fitting procedure executed on the collected data. The calculations are performed 
using the Monte Carlo method with a number of trials dependent upon the 
achievement of desired confidence and precision levels for selected statistics of the 
resulting LUECs’ probability distributions curves. From the results of the simulation it 
can be concluded that in Italy the mean (and median) private wind LUEC is 0,1404 
Euro/kWh (0,1147 Euro/kWh) in the onshore case and 0,1074 Euro/kWh (0,1036 
Euro/kWh) in the offshore case (figures expressed in 2010 Euro). By means of a 
sensitivity analysis, the dissection of these results points to a major influence of the 
territorial factor in the onshore energy cost and to a combination of territorial and 
technological factors in the offshore one. The work also analyses the impacts of the 
cost necessary to upgrade the electric grid in order to accommodate increasing 
levels of wind power and of the negative externalities produced by this source on, 
respectively, the public and the social costs of wind electricity. In addition, the actual 
and future states of the incentives assigned by the Italian government to wind energy 
are discussed in light of these results.
1 
 
1. Introduction 
This work studies, under a probabilistic approach, the economics of the generation of 
electricity produced by large wind power plants (above 1 MWp of nominal power) 
located both onshore and offshore in the Italian case. In particular, the research 
focuses on a model called LUEC – Levelized Unit Energy Cost for the estimates on 
the cost of electricity. This approach to the measurement of the cost of energy has 
been widely adopted throughout the existing literature and by governmental agencies 
in their inquiries because it allows accounting for every kind of cost component in the 
final unitary cost of energy. The formula used in the work for the calculations is 
adapted to the wind power case, so that, for example, no fuel costs are contained. 
The Monte Carlo method is used to assess a probability distribution for the final 
LUECs. Based on a scrutiny of the recent relevant literature on the subject, a dataset 
is created with observations on the parameters entering the LUEC formulation. 
Probability distributions for every variable in the LUEC formula are estimated through 
a best-fitting procedure on the collected data. A software is finally used to run the 
Monte Carlo simulation and produce a forecast of the cost of energy whose 
assumptions are the fitted probability distributions of each variable. In this way the 
work approaches the private, the public and the social cost of wind energy, in both 
the onshore and the offshore case. By means of a sensitivity analysis, the work 
investigates the relevance of the variables entering the model on the final LUECs. In 
the conclusive part, a critique to the current and future Italian systems of incentives 
given to renewable wind energy is discussed in light of the results obtained from the 
implemented model and a proposal for a more efficient mechanism is advanced. 
There are several innovations incorporated in this work and in its approach to the 
calculation of the electricity cost. Having been previously adopted for the analysis of 
the cost of electrical energy generated by other (traditional) sources, at the time of 
this writing, the Monte Carlo method has never been applied to the probability
2 
 
distribution of wind energy LUECs. Moreover, its application in the analysis of the 
goodness of the Italian Green Certificates system is an innovation, too. From the 
point of view of the producers of electricity, this technique helps to have a major 
insight into the financial feasibility of wind plant projects by assessing the probability 
distribution underlying the generation cost of electricity from both onshore and 
offshore wind power plants. Indeed this finding can then be evaluated against the 
amount of the incentives given to renewable energy which represent the main source 
of revenues for the owners of the plants, alongside with the price paid to producers 
for the electricity itself on the Italian Electric Exchange. Nonetheless, it can be used 
in a similar way by the authorities willing to judge to which extent the incentives are 
either too high, allowing also the least efficient producers to stay on the market, or 
too low, hampering the investments necessary to the development of the wind 
energy industry and the production of clean energy. The best modulation of the 
incentives is indeed the one that is most cost-efficient itself, pushing the producers to 
be as efficient as the current state of technology allows them to be and to improve 
further over time in order to increase their profitability and to innovate the industry 
standards. 
The lack of a sizeable amount of publicly accessible data regarding the actual costs 
that Italian wind energy producers bear and the impossibility of accessing them 
directly by asking to the business actors, given the sensible nature of this confidential 
data, call for an indirect approach in the construction of a significant dataset for the 
Monte Carlo simulation. In this work the data is thus collected from over 50 recent 
publications that were analyzed looking for compatible and comparable observations. 
The scrutinized data comes therefore from countries that are likely to have similar 
costs to Italy in this sector, i.e. European Countries and OECD countries (US, 
Europe, Norway, etc.) and from Italy itself. Indeed, these countries are also reported 
to have just small differences in the price of 1 installed 1MWp of wind power. This 
choice was made not only for the impossibility to access such data for the Italian
3 
 
context in a relevant quantity, but also for the peculiarities of this sector, whose main 
actors have very large market shares and act across the whole world, reproducing 
globally the same business operations and thus being likely to have similar costs in 
many different but similar countries. Also, the analysis of the Italian incentives with a 
simulation based on a panel of selected comparable international data investigates 
their goodness with respect to the current international status quo of the industry, 
which has to be both the benchmark for the Italian players and the goal to be 
pursued by the Italian government with its green policies that aim at the creation of 
an efficient green energy industry in the country. An exception to this approach is 
done with regard to the data on the number of Equivalent Full Load Hours during 
which an onshore plant can produce electricity in Italy: in this case the observations 
come from an analysis of the actual and current condition of Italy, in order to have 
significant results that adhere to the situation of the country, which is below the 
European and the Global average with regard to this variable. This data is extracted 
from the most recent bulletin about the situation of wind energy published by the 
Italian governmental agency GSE (“Gestore dei Servizi Elettrici”), deputed to promote 
the development of renewable energy sources in the country. For the offshore Full 
Load Hours, the approach followed is the usual one, based on an investigation of 
comparable international data contained in several publications, as Italy does not 
have yet any offshore wind power capacity. 
This research wants also to implicitly move a critique to the scarcity of publicly 
available data on the costs that Italian wind energy producers bear in their activities. 
In other European countries (such as Spain and Denmark) and in the United States, 
a continuous and thorough work of monitoring, collection and publication of such data 
is done by private institutions (such as laboratories in universities) or by 
governmental agencies. Only in this way it is possible for investors to have clear and 
up to date indications for the evaluation of their investments. On the other side, the 
government needs the same data to evaluate and eventually adjust the amount of
4 
 
incentives given to the industry in order to avoid lax incentives policies that can favor 
also the least efficient producers and thus slow-down the development of the 
industry. In the Italian case this important activity could be carried out by institutions 
that have enough prestige and connections in the business and institutional world to 
become a natural pundit for the subject of the economics of wind energy, such as 
Bocconi University. 
 
1.1 Current Italian Green Certificates system for wind energy 
As of today, large wind power plants (more than 1 MWp of nominal power) in Italy 
can receive exclusively Green Certificates as an incentive to the production of clean 
renewable energy and therefore this work is mainly concerned with this mechanism, 
first introduced on the 16
th
 of March 1999 by the Italian Legislative Decree D.Lgs 79 
of 1999 that acknowledges the European Directive 96/92/CE of the 19
th
 of December 
1996. Under this law, from 2002 producers and importers of electricity must input into 
the national grid a minimum quota of energy from renewable sources produced in 
plants started after the 1
st
 of April 1999. The quota is computed on the total amount 
of energy produced or imported by each actor from non-renewable sources in the 
previous year, and was initially established at 2%, while for 2010 is 6,05% and for 
2011 is 6,80%, after a series of legislative revisions. The players subjected to this 
obligation can either produce this green quota in-house or buy the necessary number 
of Green Certificates in an equivalent amount from third parties. This necessity 
creates a market for the exchange of these certificates between the producers of 
electricity from renewable sources and those required to buy them by the law. On this 
market, the price formation of the Green Certificates follows the laws of supply and 
demand. The size of each certificate is today of 1 MWh, after a series of legislative 
revisions. They are released to green energy producers by the Italian Gestore dei 
Servizi Elettrici or GSE, the public agency deputed to this activity, and the amount
5 
 
depends on the electricity inputted net of the quantity dissipated before reaching the 
public grid and used for the operation of the plant itself, with some exceptions where 
the energy produced can be totally used as the basis for the calculation. The Italian 
financial bill Legge Finanziaria of 2008 has brought about two important modifications 
for the plants started after the 31
st
 of December 2007. The first consists in the 
possibility of receiving Green Certificates for 15 years after commencement (up from 
the 12 years of the previous laws) and the second is the introduction of multiplying 
coefficients that impact the amount of electricity that can be incentivized. These apply 
to the net amount of energy elected to receive the Green Certificates and are equal 
to 1 in the case of onshore wind energy and 1,5 in that of offshore wind energy. The 
price of a green certificate is determined according to the laws of supply and demand 
and transactions can be done either on a regulated platform controlled by the Italian 
agency GME (“Gestore dei Mercati Elettrici”, deputed to the mission of organizing 
and economically managing the Electricity Market), or on a private basis with bilateral 
contracts (which are also registered by the GME). The GSE itself is a player that, 
given its many other activities, trades Green Certificates on the platform managed by 
the GME and the price it obtains for its titles is the maximum for the whole market 
(Gestore dei Servizi Elettrici, 2010). 
The GME collects statistics on the price trends of the Green Certificates that are 
publicly available on its website. In table1.1, the cumulated average prices of the 
Green Certificates released for renewable energy plants are reported. The cumulated 
average price of Green Certificates represents the average price of Green 
Certificates in the same reference year. This price is weighted for the volumes traded 
in GME’s regulated market, taking into account all the sessions in which the Green 
Certificates have been traded. This price is monthly updated (Gestore dei Mercati 
Eenergetici, Associazione Produttori Energia da Fonti Rinnovabili, 2009).
6 
 
Year 
Cumulated average price CV traded Value 
including VAT (€/MWh) excluding VAT (€/MWh) (N.) including VAT (€) 
2006 98,19 81,82 22.392 2.198.623 
2007 96,90 80,75 589.363 57.106.642 
2008 103,61 86,35 707.742 73.332.077 
2009 104,59 87,15 2.169.865 226.936.953 
2010 98,66 82,22 1.503.309 148.323.464 
Source: Gestore dei Mercati Energetici, Environmental market results – Green Certificates historical data 
Table 1.1: Price trends of Italian Green Certificates 
 
The available data is still temporally limited and it is therefore futile to discuss about 
time trends. For the present work, the 2010 cumulated average price of Green 
Certificates net of VAT will be taken into account for the following analysis, equal to 
82,22 Euro/MWh or 0,08222 Euro/kWh. This market-based dealing mechanism of 
price formation will be in place until the 31
st
 December 2012, after which a new 
system will be adopted for the plants that start their operations after this date. This 
new system will be discussed in the conclusive chapters 
 
1.2 Current pricing policy for electricity in Italy 
The GME is the governmental actor deputed to the management and organization of 
the Italian Electric Exchange (Borsa Elettrica). The reference market for the price 
formation in the Exchange is the “Market of the day before” or MGP (“Mercato del 
Giorno Prima”) where the exchanges are referred to energy traded one day after the 
dealing: on this virtual marketplace the prices for the inputted electricity are formed 
by the meeting of demand and supply. These equilibrium prices have different values 
according to the area and the time of the day in which the electricity is produced and 
inputted into the grid. They are therefore called “Local Hourly Prices” (“Prezzi Zonali
7 
 
Orari”) (Gestore dei Mercati Energetici, 2009). For this work though the price taken 
into account will be the “Single National Price” (“Prezzo Unico Nazionale”) defined as 
the average of the local hourly prices weighted for the amount of energy locally 
consumed (Gestore dei Mercati Energetici [2], 2009). For the year 2010 the average 
Italian Single National Price was 64,12 Euro/MWh or 0,06412 Euro/kWh (Gestore dei 
Mercati Energetici [3], 2010). 
 
1.3 Wind energy generation costs 
The estimation of wind energy generation costs is based on the LUEC approach, or 
Levelized Unit Energy Cost. It measures the cost for a single unit of electricity 
produced by a plant, and it is a long-established and widely adopted approach across 
countries, across different technologies and across different agencies that study the 
electricity sectors. It represents the present value of the cost of the unit  of electricity 
produced (expressed in kWh or MWh), accounting for the initial investment, operation 
and maintenance expenses and cost of capital over the plant lifetime (De Paoli and 
Lorenzoni, 1999). The following formula is a version of LUEC adapted to the case of 
large wind power plants with nominal power of 1 MWp: 
 
H
c CRF I
c
a N sp
ee
+ ⋅
=
/
 
(1) 
(De Paoli and Gullì, 2008). 
The variables are the following: 
− c
ee
  - Levelized Unit Energy Cost (LUEC)  (2010 Euro/kWh); 
− I
sp  
- Overnight cost      (2010 Euro/kW); 
− c  - O&M costs       (2010 Euro/kW/year);  
− CRF
N/a
  - Capital recovery factor;
8 
 
- H  - Equivalent Full Load Hours. 
This formulation of the LUEC is the one for the private cost borne exclusively by the 
producers and there is no consideration for other public or social costs incurred in the 
production of wind energy. 
In general data of the variables concerning onshore installations is more present 
throughout the publications about wind energy and is collected with a greater level of 
detail than that about offshore plants. 
 
1.3.1 c
ee
 – Levelized Unit Energy Cost (LUEC) (2010 Euro/kWh) 
This represents the main finding of the work, the measure of the cost of the single 
unit of electricity produced by a large wind plant. It is expressed in Euro per kWh, 
while the price of the Green Certificates and that of the electricity is normally found in 
Euro per MWh, which equals to 1.000 times Euro per kWh. This works investigates 
the Levelized Unit wind Energy Cost in its private, public and social specifications (as 
clarified in the following paragraphs) for both the onshore and the offshore cases. 
 
1.3.2 I
sp
 – Overnight cost (2010 Euro/kW) 
This item in the formula for the computation of the LUEC expresses the investment 
cost per unit of installed power, and it is usually found in literature expressed in Euro 
per kW. It is possible to find it under different names across different publications, 
such as “capital cost”, “investment cost” or “overnight cost”. The terminology 
“overnight cost” is proper of the original use of the LUEC method in the field of the 
nuclear energy: as a nuclear central can take up to more than 10 years to be built 
and also a lot more to be decommissioned, the “overnight cost” phrase expresses a 
measurement of this investment cost as if it was borne instantaneously, i.e. 
“overnight”. This is not the case of wind power plants, for which construction times
9 
 
are much shorter, usually less than three months (European Wind Energy 
Association, 2009). In both the case of onshore and offshore wind plants, the bulk of 
the investment cost is constituted by the cost of the turbine, which EWEA reports to 
be the most sizeable, followed by that for the connection to the electric grid and that 
for the foundations of the plant (European Wind Energy Association [2], 2009). The 
typical average overnight cost for an onshore plant includes the following cost items, 
as reported by the EWEA: 
- Turbine (ex-works); 
- Foundations; 
- Electric installation; 
- Grid connection; 
- Control systems; 
- Consultancy; 
- Land; 
- Financial costs; 
- Road; 
(Jensen et al., 2002). 
The relative impact of each cost item on the total final investment cost vary across 
different projects and different sites; the EWEA reports an indicative 70% as the 
average share of the total cost made up by the turbine cost. 
In the case of an offshore wind plant the item “Foundations” is likely to have a higher 
relative importance in the total investment cost, because of the complications for 
works conducted in the sea, while there will be no costs as “Road” or “Land”. The 
EWEA underlines the following elements: 
- Turbine ex-works, including transport and erection; 
- Transformer station and main cable to coast; 
- Internal grid between turbines; 
- Foundations; 
- Design and project management; 
- Environmental analysis; 
- Miscellaneous; 
(Jensen et al., 2002).
10 
 
EWEA reports the cost for turbines and for offshore foundations, in this order, as the 
main ones, followed by that of the cable for the connection to the on-land grid. Their 
relative importance cannot be defined precisely, given that every single project has to 
deal with very different environmental situations with regards to, for example, the kind 
of seabed, in terms of distance from the coast and depth of the foundations, where 
the plant is to be located (European Environment Agency, 2009). Nevertheless 
EWEA reports an average 50% quota of the total cost to be attributed to the turbine 
price. 
In the context of this work, this element will be defined as a technological component 
of the final cost of energy. The evolution of the Overnight cost over the long run 
depends indeed on the progress of the technology that lies at the core of the 
production of wind energy, even though in the short run some contingencies 
depending from the market situation can alter its cost, too. Nevertheless, the 
Overnight cost refers to the price paid for the machines, for the equipment and for the 
preparation of the site necessary to install a wind power plant and in this sense it is 
strongly linked to technology (European Wind Energy Association [2], 2009). 
 
1.3.3 CRF
N/a
 – Capital recovery factor 
The Capital recovery factor is a financial ratio used to determine the amount of the 
annuity due to the repayment of an initial investment (in this case the Overnight cost) 
for a period of time with duration of N years at an interest rate equal to a. Its formula 
is: 
1 ) 1 (
) 1 (
/
- +
+  =
N
N
a N
a
a a
CRF
 
(2) 
(De Paoli and Gullì, 2008).