  Energy system optimization models (ESOMs) are designed to examine the
potential effects of a proposed policy, but often represent energy-efficient
technologies and policies in an overly simplified way. Most ESOMs include
different end-use technologies with varying efficiencies and select
technologies for deployment based solely on least-cost optimization, which
drastically oversimplifies consumer decision-making. In this paper, we change
the structure of an existing ESOM to model energy efficiency in way that is
consistent with microeconomic theory. The resulting model considers the
effectiveness of energy-efficient technologies in meeting energy service
demands, and their potential to substitute electricity usage by conventional
technologies. To test the revised model, we develop a simple hypothetical case
and use it to analyze the welfare gain from an energy efficiency subsidy versus
a carbon tax policy. In the simple test case, the maximum recovered welfare
from an efficiency subsidy is less than 50% of the first-best carbon tax
policy.
