CO 2 cost pass-through and windfall profits in the power sector

“This has become a pressing issue due to recent analysis (see Sijm et al., 2005, 2006 and this issue) which suggests that the opportunity cost associated with holding such an allowance (prior to submitting it in fulfilment of the requirements of the Directive at the end of the relevant accounting…”

“When the price cap is set below the variable cost (including the allowance cost) of the marginal generator, it can prohibit the shift in the merit order that an ETS is designed to deliver (Ellerman & Joskow, 2008; Sijm et al., 2006).”

“This has largely been the case for the opportunity costs of carbon permits in electricity generation (Sijm et al., 2006).”

“Sijm et al. (2006) used electricity pricing and generation data from Germany and the Netherlands to estimate CO2 cost pass-through.”

“However, grandfathering could cause two main problems: profiteering and distorted investment (Sijm et al. 2006).”

“They could pass the opportunity costs of CO2 in liberalized electricitymarkets, as economic studies demonstrate (Sijm et al., 2006), even though their monetary costs did not rise.”

“Concerning the electricity sector several studies have been examining the influence of carbon pricing on electricity prices: (Levy, 2005; Sijm et al., 2006; Reinaud, 2007; Zachmann and von Hirschhausen, 2007; Sijm et al., 2008; Keppler and MansanetBataller, 2010) which already use data from the…”

“The implications of carbon-trading for the electricity price as well as pass-through of abatement costs are discussed in Sijm et al. (2006), Sijm et al. (2007) and Chen et al. (2008).”

“In energy markets without price regulation, on the other hand, results indicate high levels of pass-through, leading to significant windfall profits from EU ETS participation for the power sector (Sijm et al, 2006).”

“Sijm et al. (2006) show by empirical estimates that the pass-through rates of costs of CO2 allowances for the power sectors in Germany and the Netherlands vary between 60% and 100% depending on the carbon intensity of the marginal production unit and various other market-specifi c or…”

“If I consider that electricity production from coal emits 0.85 tons of CO2/MWh (Sijm, Neuhoff, and Chen, 2006) and that electricity production from gas (combined cycle) emits 0.48 tons of CO2/MWh, a support level of 24 e/MWh provides a price advantage to wind power producers that is equivalent to a…”

“In any country these are likely to be common features (Sijm et al. 2006), so the scope for distortionary collective action clearly needs to be limited by having a neutral body, with enough economic expertise, sift through industry claims and the subtle and intertwined effects of EITE assistance features.”

“At that time, a paper by Sijm et al. (2006) ignited the debate.”

“According to one study, power 264 E.A. Page companies in the Netherlands, Belgium, France and Germany collectively achieved additional revenues of € 5.3 billion to € 7.7 billion in the first year of the scheme by acting in this manner (Sijm et al. 2006, pp. 62–63).”

“In order to analyze the impact of TMCs on electricity pricing, we agree with Sijm [ 23 ], who defines”

“However, considering that firms in the power sector would pass most of their CO 2 costs through to downstream consumers under grandfathering (Sijm et al., 2006; Chen et al., 2008; Chernyavs’ka and Gullì, 2008; Kim et al., 2010; Lise et al., 2010; Nelson et al., 2012; Sijm et al., 2012; Fabra and…”

“So the auction revenues of carbon emissions permits can be returned to consumers for reducing the negative impacts on them [Sijm et al., 2006; Chen et al., 2008; Fell, 2008].”

“86 Sijm et al (2006).”

“In an analysis involving econometric and simulation methods, Sijm et al. (2006) find a response in the short-run electricity price in the markets in the Netherlands and surrounding countries.”

“The issue of windfall profits has attracted attention since evidence has emerged of billions of dollars in unanticipated earnings due to free allocation of emissions allowances in the European Union’s Emissions Trading Scheme (Sijm et al., 2006).”

“Sijm and Chen (2006) and Chen (2008) assumed that electricity was determined by the variation of fuel and carbon costs, and thus they introduced a linear regression model for analyzing the impact of the carbon price on electricity prices.”

“The marginal pass-through rate may be less than 100 per cent depending on the structural features affecting both competition and the level of demand in the electricity market (Sijm et al. 2006; Chernyavs’ka and Gulli 2008).”

“In the EU-ETS, the penalties for shortage of allowances constrained the demanders, while extra allowances provide windfall profits to suppliers (see Sijm, Neuhoff, and Chen 2006).”

“Overcompensation of GHG emitters, to the point where profits or asset values are increased above what would have occurred in the absence of climate policy, has been identified in the European electrical (Sijm et al., 2006) refineries, chemical and iron and steel (de Bruyn et al.”

“( 2006 ) find that between 60–100% of the price of CO 2 flowed through to power markets in Germany and the Netherlands depending on the mix of generating resources, the marginal generating resource and the electricity market structure.”

“Research on this issue has been done for the Nordic market, as well as other European electricity markets (e.g., Sijm et al. 2006, 2008; Fell 2008; Bunn and Fezzi 2007; Alberola et al. 2008; Åhman et al. 2008, and Wråke et al. 2008) This supports the view that electricity firms internalise the cost…”

“This is especially true in the electricity sector, where power prices rose to incorporate allowance values (Sijm et al. 2006; U.K. House of Commons 2005).”

“The power industry can pass on 60% to 100% of its carbon cost to the product price, and the power industry may realize considerable profit from excessive compensation (Sijm, Neuhoff, and Chen 2006).”

“A possible explanation for this result is the rational market behavior during EU ETS Phase I if price increases can be passed on (Oberndorfer, 2009), because the system can generate windfall profits for the analyzed companies (Sijm et al., 2006).”

“Free allocation of allowances to upstream participants would lead to large windfall profits, since fuel suppliers would raise prices to reflect the opportunity cost of allowances, but only incur expenditures for any net allowance shortfalls (Sijm et al., 2006).”

“Many studies also find that some higher CPT rates were usually associated with high demand and the utilisation rate of generation capacity (Sijm et al., 2006; Honkatukia et al., 2008; Jouvet and Solier, 2013; Fabra and Reguant, 2014).”

“In fact, the free allocation policy generated substantive windfall profits especially for the power generation sector (by including the EUA price in the final price of electricity even though the allowances were freely obtained, e.g. Sijm et al. 2006).”

“Sijm et al. (2006) further investigate this cost passthrough, which in effect gives windfall profits to the power sector because of the free allocation of emission allowances in the EU ETS in the first phase.”

“The overall positive effect of allowance price changes is illustrated in contributions employing competition models to estimate aggregate effects of the EU ETS for the electricity or iron industry (Sijm et al., 2006; Demailly and Quirion, 2008), and may be due either to weak reduction targets or to oligopolistic produ…”

“Applying this definition along with exhaustive energy price and quantity data, we estimate the magnitude of Saudi Ara-bia’s energy subsidies from 2007 to 2018, a period that encompasses rapid domestic socio-economic growth and two waves of energy price reform.”

“Sijm et al. (2006) consider such profits as windfalls based on the application of the opportunity cost principle in a competitive electricity market.”

“For instance, Sijm et al. (2006) use the model COMPETES for an assessment of the magnitude of the windfall profits and calculate a multi billion euro windfall profit for firms in Belgium, France, Germany and the Netherlands alone.”

“While highlighting the importance of the EU ETS, Sijm et al. (2006) specify that it had a distortive result in respect to the industrial sectors that, while receiving the free allowances, could transfer this cost in the final price of products.”

“[41] found high levels of carbon price pass through into electricity prices in Europe.”

“, 2007), underpinned by the principle that it is vital to create a sustainable global energy supply, always seeking the reduction of green house gases (GHG) emissions (Angulo-Brown et al., 2009; Ayyub and Amin, 2007; Alters, 2007; Rabl and Spadaro, 2007; Sijm et al., 2006).”