Markets for Carbon and Power Pricing in Europe

Markets for Carbon and Power Pricing in Europe

Theoretical Issues and Empirical Analyses

New Horizons in Environmental Economics series

Edited by Francesco Gullì

Why do power prices seem to be correlated with the carbon price in some markets and not in others? This crucial question is at the centre of Francesco Gullì’s enlightening book, through which the contributing authors investigate a number of related issues. In particular, they explore why power firms are not consistent in passing-through into power prices the opportunity cost of carbon. They also examine the relationship between the pass-through mechanism and the structure of the power market.

Chapter 1: Introduction

Francesco Gullì

Subjects: economics and finance, energy economics, environmental economics, environment, environmental economics


Francesco Gullì The European Emissions Trading Scheme (EU ETS) is the first international trading scheme for carbon dioxide (CO2) emissions in the world. Its aim is to reduce the cost of meeting the Kyoto Protocol requirements by creating an explicit and common price for carbon. The EU ETS covers several industry sectors of which power generation is the largest. Therefore, on the one hand, the performance of the trading scheme largely depends on the efficacy in inducing the power industry to reduce CO2 emissions significantly in the short and long runs. On the other hand, it might have a considerable impact on consumer surplus and firms’ profits and competitiveness. Either the performance of the EU ETS or its impact on social welfare depends on how and to what extent the CO2 price is passed through into power prices. Given this premise, it is easy to understand why researchers, operators and regulators are so interested in the interaction between carbon and power prices. Nevertheless, the current literature on this topic is quite controversial, from both the theoretical and the empirical points of view. On the theoretical side, an open question is how the CO2 cost passthrough is correlated with the structural features of the output market, namely the power market. In fact, while it is quite clear what can occur under perfectly competitive scenarios, opinions diverge when the assumption of perfect competition is abandoned. Some authors state that under imperfect competition electricity prices increase more than in a...