Arbitrage in energy markets: competing in the incumbent's shadow
This paper studies the welfare implications of using market mechanisms to allocate transmission capacity in recently liberalized electricity markets. It questions whether access to this essential facility should be traded on a market, or whether the incumbent should retain exclusive usage rights. We show that granting exclusive use to the incumbent might be optimal, if the capacity of the essential facility is small and the incumbent can reduce production costs by taking advantage of interregional production-cost differences. This result counters the intuition that arbitrage will improve the social surplus when there is no output contraction. The reason is that when competition is imperfect, arbitrage might reduce production efficiency. We advise policymakers to introduce market mechanisms for the allocation of transmission capacity only if sufficient investment in the network is ensured or if the market power of the incumbent is broken in at least one of the markets in which it is active.
|Date of creation:||Mar 2007|
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- Reza Ahmadi & B. Rachel Yang, 2000. "Parallel Imports: Challenges from Unauthorized Distribution Channels," Marketing Science, INFORMS, vol. 19(3), pages 279-294, March.
- 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.
- Severin Borenstein & James. Bushnell & Steven Stoft, 2000. "The Competitive Effects of Transmission Capacity in A Deregulated Electricity Industry," RAND Journal of Economics, The RAND Corporation, vol. 31(2), pages 294-325, Summer.
- Berenstein, Severin & Bushnell, James & Stoft, Steven, 2000. "The Competitive Effects of Transmission Capacity in a Deregulated Electricity Industry," Staff General Research Papers 13145, Iowa State University, Department of Economics.
- Bert Willems, 2002. "Barring consumers from the electricity network might improve welfare," Energy, Transport and Environment Working Papers Series ete0213, Katholieke Universiteit Leuven, Centrum voor Economische Studiën, Energy, Transport and Environment.
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- Joskow, Paul L & Tirole, Jean, 1999. "Transmission Rights and Market Power on Electric Power Networks I: Financial Rights," CEPR Discussion Papers 2093, C.E.P.R. Discussion Papers.
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- Varian, Hal R, 1985. "Price Discrimination and Social Welfare," American Economic Review, American Economic Association, vol. 75(4), pages 870-75, September.
- Layson, Stephen, 1988. "Third-Degree Price Discrimination, Welfare and Profits: A Geometrical Analysis," American Economic Review, American Economic Association, vol. 78(5), pages 1131-32, December.
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