Start-Up Costs and Market Power: Lessons from the Renewable Energy Transition

Abstract

Firms expect to recover the fixed costs required to start production by earning positive operating profits in subsequent periods. We develop a dynamic competitive benchmark that accounts for start-up costs, showing that static markups overstate the rents attributable to market power in an electricity market where generators frequently stop and start production in response to rooftop solar output. We demonstrate that the large-scale expansion of solar capacity can lead to increases in the collective profitability of fossil fuel plants because competition softens at sunset—plants displaced by solar during the day must incur start-up costs to compete in the evening. (JEL D24, L13, L25, L94, Q41, Q42)