EMISSION PERMITS TRADING AND DOWNSTREAM STRATEGIC MARKET INTERACTION

Authors

  • GIUSEPPE DE FEO,

    1. University of Strathclyde and Università degli Studi di Pavia
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  • JOANA RESENDE,

    1. University of Porto and Cef.up
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  • MARÍA EUGENIA SANIN

    1. University of Montpellier 1, UMR5474 LAMETA and École Polytechnique, Paris
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    • The authors thank Rabah Amir, Paul Belleflamme, Thierry Brechet, Sofia Castro, Jean Gabszewicz and an anonymous referee report for their helpful comments. The usual disclaimer applies. Financial support to Joana Resende from Fundaçãopara a Ciência e a Tecnologia is deeply acknowledged (Research Grant PTDC/EDGE-ECO/115625/2009).


  • Manuscript received 21.1.12; final version received 6.2.12.

Abstract

This paper studies inefficiencies arising in oligopolies subject to environmental regulation based on tradable emission permits. We propose a duopoly model of upstream–downstream strategic competition: in the permits market a leader sets the price, whereas in the output market Cournot competition occurs. We find that strategic interaction in the output market gives rise to an additional distortion in the permits market where both firms adopt ‘rival's cost-rising’ strategies to gain a competitive advantage in the output market. As a result, the price of permits is always higher than firms' marginal abatement costs.

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