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An Econometric Analysis of Emission Trading Allowances

Author

Listed:
  • Marc S. Paoletta

    (University of Zurich and Swiss Finance Institute)

  • Luca Taschini

    (University of Zurich)

Abstract

World power and gas markets have a natural relationship with global tradable carbon permits markets, including the U.S. Clean Air Act Amendments and the EU Emissions Trading Scheme, the latter officially launched in January 2005. Electric utilities operate their power plants based in part on the price of the power and the relative cost of coal and natural gas. As both carbon dioxide and sulphur dioxide are by-products of the coal burning process, the new factors of SO2 and CO2 emissions allowances come into play in a carbon constrained economy. Now that a price has been put on such allowances, the differences in carbon intensity for coal and gas could potentially change the way companies run their power plants. Moreover, knowledge of the statistical distribution of emission trading allowances, and its forecastability, becomes crucial in constructing optimal hedging and purchasing strategies in the carbon market. This paper provides an in-depth analysis of available data addressing the unconditional tail behavior and the inherent heteroskedastic dynamics in the returns on the emissions allowances.

Suggested Citation

  • Marc S. Paoletta & Luca Taschini, 2006. "An Econometric Analysis of Emission Trading Allowances," Swiss Finance Institute Research Paper Series 06-26, Swiss Finance Institute.
    • Handle: RePEc:chf:rpseri:rp0626
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    File URL: http://ssrn.com/abstract=960010
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    More about this item

    Keywords

    Environmental Finance; GARCH; Greenhouse Gases; Mixture Models; Tail Estimation;
    All these keywords.

    JEL classification:

    • C16 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Econometric and Statistical Methods; Specific Distributions
    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models
    • C51 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Construction and Estimation
    • C52 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Evaluation, Validation, and Selection
    • C53 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Forecasting and Prediction Models; Simulation Methods

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