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Carbon Market Design and Self-Fulfilling Prophecies
Open accessAbstract
Beliefs about future allowance prices in cap-and-trade schemes are heterogeneous and not necessarily fully informed. This paper shows how carbon-market design affects the impact of noise traders on equilibrium prices. Price-based flexibility mechanisms encourage arbitrage by rational traders and limit the impact of noise traders. The Market Stability Reserve (MSR) of the EU ETS that adjusts supply based on past allowance banking discourages arbitrage by rational traders undermining self-stabilizition of the carbon market. The design proposed by the European Commission as part of the ’Fit for 55’ package reduces the responsiveness of rational traders to that of noise-traders. The MSR increases vulnerability of the EU ETS to market sentiments.
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The increase in the marginal intake rate may also aggravate MSR impacts on price stability and make its asymmetric potency in reducing supply versus expanding it even more prevalent.
“The increase in the marginal intake rate may also aggravate MSR impacts on price stability (Gerlagh et al. 2022, Perino 2022) and make its asymmetric potency in reducing supply versus expanding it even more prevalent (Quemin 2022).”
From The Market Stability Reserve in the EU Emissions Trading System: A Critical Review (2023) · cites this paper as Perino 2022
A banking-based mechanism such as the MSR undermines market self-stabilizing forces because it induces effective supply curves that are downward sloping.
“Perino (2022) shows how a banking-based mechanism such as the MSR undermines market self-stabilizing forces (i.e., rational responses to dampen noisy price moves through arbitrage) because it induces effective supply curves that are downward sloping.”
From The Market Stability Reserve in the EU Emissions Trading System: A Critical Review (2023) · cites this paper as Perino 2022
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The Market Stability Reserve in the EU Emissions Trading System: A Critical Review
Borghesi, S., Pahle, M., Perino, G., Quemin, S., & Willner, M. (2023) · Annual Review of Resource Economics · doi:10.1146/annurev-resource-111820-030145 · Cited by 54
“On the theoretical front, models with extra financial or market microstructure elements have been developed by Germain et al. (2004), Colla et al. (2012), Cantillon & Slechten (2018),and Perino (2022).”
BackgroundSelf-citationFinancials threaten to undermine the functioning of emissions markets
Quemin, S., & Pahle, M. (2023) · Nature Climate Change · doi:10.1038/s41558-022-01560-w · Cited by 49
Real options analysis of decarbonization investments in the chemical industry
Tautorat, P., Iversen, J., Schmidt, T. S., & Steffen, B. (2025) · Applied Energy · doi:10.1016/j.apenergy.2025.126238 · Cited by 13
The Emerging Endgame: The EU Ets on the Road Towards Climate NeutralityPreprint
Pahle, M., Quemin, S., Osorio, S., Günther, C., & Pietzcker, R. (2024) · SSRN Electronic Journal · doi:10.2139/ssrn.4707860 · Cited by 1
Metadata
- Authors
- Perino, G.
- Affiliations
- Universität Hamburg (DE)
- Corresponding author
- Perino, Grischa
- ORCID
- Perino, Grischa
- Venue
- SSRN Electronic Journal
- Publisher
- Elsevier BV
- Published
- 2022
- ISSN
- 1556-5068 (ISSN-L)
- OpenAlex
- W4312851396
- Cited by
- 4
- References
- 0
- Citations by year
- 2025: 1 · 2024: 1 · 2023: 1 · 2022: 1
- Type
- posted content
- Language
- en
- Open access
- green
- doi.org
- Locations
- SSRN Electronic Journal (acceptedVersion)
- Topics
- Social Sciences › Economics, Econometrics and Finance › Economics and Econometrics › Climate Change Policy and Economics
- Social Sciences › Economics, Econometrics and Finance › Economics and Econometrics › Market Dynamics and Volatility
- Social Sciences › Economics, Econometrics and Finance › Finance › Financial Markets and Investment Strategies
- Keywords
- carbon market design, self-fulfilling prophecy, noise traders, emissions trading, allowance prices, Market Stability Reserve, EU Emissions Trading System, allowance banking, arbitrage, Fit for 55, market sentiment, heterogeneous beliefs
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