Perspective Improving the representation of cost of capital in energy system models

Energy system models suggest optimal investment pathways and guide policymakers in implementing the low-carbon energy transi-tion. Although model accuracy greatly improved over the last decade, it is unclear whether the cost of capital (CoC) is well repre-sented, despite the parameter's strong influence on model out-comes. In this perspective, we review 58 model-based publications that explicitly refer to CoC and observe that simply stating un-founded assumptions remains the most important methodfor determining the CoC. Overall, there appears to be a clear lack of guiding principles for how to appropriately determine CoC for use within models. To close this gap, we identify four barriers to a more accurate CoC reflection and suggest practical steps for over-coming them, including heuristic guidelines to support modelers in determining when differentiated CoC rates ought to be applied. Overall, we believe more rigorous treatment of the CoC will improve the quality of model-based policy advice.

Automated summary

Energy system models provide optimal investment pathways and guide policymakers in the low-carbon energy transition. However, the representation of the cost of capital (CoC) in these models remains unclear, despite its strong influence on outcomes. A review of 58 model-based publications suggests a lack of guiding principles for determining CoC, with many relying on unfounded assumptions. To address this, the study identifies barriers and suggests practical steps, including heuristic guidelines for differentiated CoC rates. Overall, improving the treatment of CoC will enhance the quality of model-based policy advice.