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Derivatives and Default Risk

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  • Scholz, Sebastian

Abstract

Upstream producers that possess market power, sell forwards with a lengthy duration to regional electricity companies (REC). As part of the liberalization of the electricity market, RECs have been privatized and exposed to a possible bankruptcy threat if spot prices have fallen below their expected value. The downstream firms’ expected profit is larger, when it is less likely to be bailed out, the effect on upstream profits is ambiguous while consumers loose. Options are less welfare increasing than forwards, but the difference is minimal. In the presence of bankruptcy, options are the preferred welfare maximizing market instrument.

Suggested Citation

  • Scholz, Sebastian, 2010. "Derivatives and Default Risk," Discussion Papers in Economics 11317, University of Munich, Department of Economics.
    • Handle: RePEc:lmu:muenec:11317
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    File URL: https://epub.ub.uni-muenchen.de/11317/1/Derivatives_and_Default_Risk.pdf
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    References listed on IDEAS

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    More about this item

    Keywords

    Forwards; Options; Default Risk; Market Efficiency;
    All these keywords.

    JEL classification:

    • D43 - Microeconomics - - Market Structure, Pricing, and Design - - - Oligopoly and Other Forms of Market Imperfection
    • G33 - Financial Economics - - Corporate Finance and Governance - - - Bankruptcy; Liquidation
    • G34 - Financial Economics - - Corporate Finance and Governance - - - Mergers; Acquisitions; Restructuring; Corporate Governance
    • G35 - Financial Economics - - Corporate Finance and Governance - - - Payout Policy

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