Inefficiencies and Market Power in Financial Arbitrage: A Study of California's Electricity Markets

32 Pages Posted: 14 Jul 2008

See all articles by Severin Borenstein

Severin Borenstein

University of California, Berkeley - Economic Analysis & Policy Group; National Bureau of Economic Research (NBER)

Christopher R. Knittel

Massachusetts Institute of Technology (MIT) - Sloan School of Management; National Bureau of Economic Research (NBER)

Catherine D. Wolfram

University of California, Berkeley - Economic Analysis & Policy Group; National Bureau of Economic Research (NBER)

Abstract

For two years prior to the collapse of California's restructured electricity market, power traded in both a forward and a spot market for delivery at the same times and locations. Nonetheless, prices in the two markets often differed in significant and predictable ways. This apparent inefficiency persisted, we argue, because most firms believed that trading on inter-market price differences would yield regulatory penalties. For the few firms that did make such trades, it was not profit-maximizing to eliminate the price differences entirely. Skyrocketing prices in 2000 changed the major buyers' (utilities') incentives and exacerbated the price differentials between the markets.

Suggested Citation

Borenstein, Severin and Knittel, Christopher R. and Wolfram, Catherine D., Inefficiencies and Market Power in Financial Arbitrage: A Study of California's Electricity Markets. The Journal of Industrial Economics, Vol. 56, Issue 2, pp. 347-378, June 2008, Available at SSRN: https://ssrn.com/abstract=1158753 or http://dx.doi.org/10.1111/j.1467-6451.2008.00344.x

Severin Borenstein (Contact Author)

University of California, Berkeley - Economic Analysis & Policy Group ( email )

Berkeley, CA 94720
United States
510-642-3689 (Phone)
707-885-2508 (Fax)

National Bureau of Economic Research (NBER)

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Christopher R. Knittel

Massachusetts Institute of Technology (MIT) - Sloan School of Management ( email )

100 Main Street
E62-416
Cambridge, MA 02142
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Catherine D. Wolfram

University of California, Berkeley - Economic Analysis & Policy Group ( email )

Berkeley, CA 94720
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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