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European Carbon Prices and Banking Restrictions: Evidence from Phase I (2005-2007)

Abstract:
The price of European Union Allowances (EUAs) has been declining at far lower levels than expected during Phase I (2005-2007). Previous literature identifies among its main explanations over-allocation concerns, early abatement efforts in 2005, and possibly decreasing abatement costs in 2006. We advocate low allowance prices may also be explained by banking restrictions between 2007 and 2008. Based on a Hotelling-CAPM analysis, we provide statistical evidence that the French and Polish decisions to ban banking contribute to the explanation of low EUA Phase I prices. Besides, we provide the first rigorous empirical verification that the cost-of-carry relationship between EUA spot and futures prices for delivery during Phase II does not hold after the enforcement of the inter-period banking restrictions. This situation may be interpreted as a sacrifice of the temporal flexibility offered to industrials in Phase I to correct design inefficiencies, and achieve an efficient price pattern in Phase II.

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Energy Specializations: Energy and the Environment – Climate Change and Greenhouse Gases; Energy and the Environment – Environmental Market Design; Energy and the Environment – Policy and Regulation

JEL Codes:
Q54 - Climate; Natural Disasters and Their Management; Global Warming
Q56 - Environment and Development; Environment and Trade; Sustainability; Environmental Accounts and Accounting; Environmental Equity; Population Growth
E60 - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook: General

Keywords: Carbon emissions trading, EU ETS, Banking, Borrowing, Hotelling, Ellerman-Parsons Ratio

DOI: 10.5547/ISSN0195-6574-EJ-Vol30-No3-3


Published in Volume 30, Number 3 of The Quarterly Journal of the IAEE's Energy Economics Education Foundation.