Time Variation in European Carbon Pass-Through Rates in Electricity Futures Prices

20 Pages Posted: 23 Sep 2014

See all articles by Ronald Huisman

Ronald Huisman

Erasmus University Rotterdam (EUR) - Erasmus School of Economics (ESE)

Mehtap Kilic

Erasmus University Rotterdam (EUR) - Erasmus School of Economics (ESE)

Date Written: September 23, 2014

Abstract

The European Union Trading Scheme (EU ETS) gives emission allowances a market price and are a marginal cost factor for those power plants that run on polluting fuels. Power plants have these costs in mind when they determine the selling price of their output. Being sold on a market place, it makes sense to expect that electricity market prices somehow reflect the price of emission rights. The pass-through rate measures the fraction of the price of an emission right passed through to the electricity market price.

It is often assumed that the pass-through rate of emission costs in electricity prices is constant within a specific time period. We argue that this is unlikely as electricity is produced by suppliers that apply different emission intensive technologies. Depending on different demand levels between and over days, we expect that the pass-through rate should vary and not be constant as the market clearing price is determined by different marginal producers who differ in terms of emissions intensity. We therefore test the hypothesis that pass-through rates are constant and we find strong support, using futures prices from the U.K. and Germany, for rejecting this hypothesis against the alternative that pass-through rates are non-constant and vary over time.

Keywords: emission rights; pass-through rates; Kalman Filter; electricity futures prices

JEL Classification: Q49; G1

Suggested Citation

Huisman, Ronald and Kilic, Mehtap, Time Variation in European Carbon Pass-Through Rates in Electricity Futures Prices (September 23, 2014). Available at SSRN: https://ssrn.com/abstract=2500135 or http://dx.doi.org/10.2139/ssrn.2500135

Ronald Huisman

Erasmus University Rotterdam (EUR) - Erasmus School of Economics (ESE) ( email )

P.O. Box 1738
3000 DR Rotterdam, NL 3062 PA
Netherlands

Mehtap Kilic (Contact Author)

Erasmus University Rotterdam (EUR) - Erasmus School of Economics (ESE) ( email )

P.O. Box 1738
3000 DR Rotterdam, NL 3062 PA
Netherlands

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