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Hedging and Vertical Integration in Electricity Markets

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  • Aïd, René
  • Chemla, Gilles
  • Porchet, Arnaud
  • Touzi, Nizar
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    Abstract

    This paper analyzes the interactions between competitive (wholesale) spot, retail, and forward markets and vertical integration in electricity markets. We develop an equilibrium model with producers, retailers, and traders to study and quantify the impact of forward markets and vertical integration on prices, risk premia and retail market shares. We point out that forward hedging and vertical integration are two separate mechanisms for demand and spot price risk diversification that both reduce the retail price and increase retail market shares. We show that they differ in their impact on prices and firms' utility due to the asymmetry between production and retail segments. Vertical integration restores the symmetry between producers' and retailers' exposure to demand risk while linear forward contracts do not. Vertical integration is superior to forward hedging when retailers are highly risk averse. We illustrate our analysis with data from the French electricity market.

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    Bibliographic Info

    Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 8313.

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    Date of creation: Apr 2011
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    Handle: RePEc:cpr:ceprdp:8313

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    Related research

    Keywords: electricity markets; forward; hedging; producers; retailers; spot; vertical integration;

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    References

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    1. Nils-Henrik M. von der Fehr & Petter Vegard Hansen, 2010. "Electricity Retailing in Norway," The Energy Journal, International Association for Energy Economics, vol. 0(Number 1), pages 25-46.
    2. Mansur, Erin T, 2007. "Upstream Competition and Vertical Integration in Electricity Markets," Journal of Law and Economics, University of Chicago Press, vol. 50(1), pages 125-56, February.
    3. Khalid Sekkat, 2006. "Vertical relationships and the firm in the global economy," ULB Institutional Repository 2013/7312, ULB -- Universite Libre de Bruxelles.
    4. G. Chemla, 1999. "Downstream competition, foreclosure, and vertical integration," THEMA Working Papers 99-18, THEMA (THéorie Economique, Modélisation et Applications), Université de Cergy-Pontoise.
    5. Emons, Winand, 1996. "Good times, bad times, and vertical upstream integration," International Journal of Industrial Organization, Elsevier, vol. 14(4), pages 465-484, June.
    6. Chemla, Gilles, 2003. "Downstream Competition, Foreclosure, and Vertical Integration," Economics Papers from University Paris Dauphine 123456789/6313, Paris Dauphine University.
    7. Alfred D. Chandler, 1969. "Strategy and Structure: Chapters in the History of the American Industrial Enterprise," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262530090, January.
    8. Jean Tirole, 1988. "The Theory of Industrial Organization," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262200716, January.
    9. Christian Gollier, 2004. "The Economics of Risk and Time," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262572249, January.
    10. Evens SALIES & Catherine WADDAMS, 2004. "Charges, costs and market power in the deregulated UK electricity retail market," Industrial Organization 0406003, EconWPA.
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    Cited by:
    1. Meunier, Guy, 2013. "Risk aversion and technology mix in an electricity market," Energy Economics, Elsevier, vol. 40(C), pages 866-874.
    2. Füss, Roland & Mahringer, Steffen & Prokopczuk, Marcel, 2013. "Electricity Derivatives Pricing with Forward-Looking Information," Working Papers on Finance 1317, University of St. Gallen, School of Finance.

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