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Transmission Rights and Market Power on Electric Power Networks I: Financial Rights

  • Joskow, Paul L
  • Tirole, Jean

We examine whether and how the allocation of financial transmission rights affects the behavior of electricity generators and electricity consumers with market power in the electricity market. The analysis recognizes that the ultimate allocation of rights is endogenous, depending both on whether transmission rights can enhance market power and the microstructure of the rights market. Three alternative rights market microstructures are examined. The analysis initially focuses on a two-node network where there are cheap supplies available in an exporting region, expensive supplies in an importing region, and a congested transmission link between the two regions. Several other market power configurations are examined in less detail. We find that the allocation of financial rights can enhance the market power of generators at the expensive node and of electricity buyers at the cheap node. Financial rights can also mitigate market power of buyers at the expensive node and of sellers at the cheap node. However, when there is a monopoly at the expensive node, allocating financial rights to it need not affect its behavior since it may extract all of the congestion rents without possessing financial rights. Whether and how many rights will be allocated through the rights market to agents that can use them to enhance market power turns on the microstructure of the rights market and, in particular, on the extent of free riding on the potential monopoly rents accruing to rights holders. Extending the analysis to a three-node network to allow for loop flows does not change the basic results. Alternative regulatory rules that would restrict who can acquire rights are examined. A companion paper extends this analysis to the situation where physical rather than financial rights are utilized and compares the welfare properties of financial and physical rights from a market power enhancement perspective.

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Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 2093.

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Date of creation: Mar 1999
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Handle: RePEc:cpr:ceprdp:2093
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  1. Bengt Holmstrom & Jean Tirole, 1998. "Private and Public Supply of Liquidity," Journal of Political Economy, University of Chicago Press, vol. 106(1), pages 1-40, February.
  2. Harvey, Scott M. & Hogan, William W. & Pope, Susan L., 1996. "Transmission capacity reservations implemented through a spot market with transmission congestion contracts," The Electricity Journal, Elsevier, vol. 9(9), pages 42-55, November.
  3. A. Admati & P. P├čeiderer & J. Zechner, 2005. "Large shareholder activism, risk sharing, and financial market equilibrium," Public Economics 0502011, EconWPA.
  4. Mike Burkart & Denis Gromb & Fausto Panunzi, 1998. "Why Higher Takeover Premia Protect Minority Shareholders," Journal of Political Economy, University of Chicago Press, vol. 106(1), pages 172-204, February.
  5. Severin Borenstein & James Bushnell & Steven Stoft, 1997. "The Competitive Effects of Transmission Capacity in a Deregulated Electricity Industry," NBER Working Papers 6293, National Bureau of Economic Research, Inc.
  6. Steven Stoft, 1999. "Financial Transmission Rights Meet Cournot: How TCCs Curb Market Power," The Energy Journal, International Association for Energy Economics, vol. 0(Number 1), pages 1-23.
  7. Shmuel S. Oren, 1997. "Economic Inefficiency of Passive Transmission Rights in Congested Electricity Systems with Competitive Generation," The Energy Journal, International Association for Energy Economics, vol. 0(Number 1), pages 63-83.
  8. Chao, Hung-Po & Peck, Stephen, 1996. "A Market Mechanism for Electric Power Transmission," Journal of Regulatory Economics, Springer, vol. 10(1), pages 25-59, July.
  9. Hogan, William W, 1992. "Contract Networks for Electric Power Transmission," Journal of Regulatory Economics, Springer, vol. 4(3), pages 211-42, September.
  10. Oren, Shmuel S. & Spiller, Pablo T. & Varaiya, Pravin & Wu, Felix, 1995. "Nodal prices and transmission rights: A critical appraisal," The Electricity Journal, Elsevier, vol. 8(3), pages 24-35, April.
  11. Joskow, Paul L & Tirole, Jean, 1999. "Transmission Rights and Market Power on Electric Power Networks. II: Physical Rights," CEPR Discussion Papers 2087, C.E.P.R. Discussion Papers.
  12. Green, Richard & Newbery, David M G, 1991. "Competition in the British Electricity Spot Market," CEPR Discussion Papers 557, C.E.P.R. Discussion Papers.
  13. Bushnell, James, 1999. "Transmission Rights and Market Power," The Electricity Journal, Elsevier, vol. 12(8), pages 77-85, October.
  14. Jean Tirole, 1988. "The Theory of Industrial Organization," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262200716, June.
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