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Hedging and Vertical Integration in Electricity Markets

Aïd, René ; Chemla, Gilles ; Porchet, Arnaud ; Touzi, Nizar

Management Science, 1 August 2011, Vol.57(8), pp.1438-1452 [Peer Reviewed Journal]

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Title:
Hedging and Vertical Integration in Electricity Markets
Author/Creator: Aïd, René ; Chemla, Gilles ; Porchet, Arnaud ; Touzi, Nizar
Language: English
Subjects: Economics -- Macroeconomics -- Aggregate economy ; Arts -- Applied arts -- Architecture ; Physical sciences -- Physics -- Fundamental forces ; Business -- Business operations -- Commerce ; Economics -- Macroeconomics -- Aggregate economy ; Economics -- Economic disciplines -- Financial economics ; Business -- Business operations -- Commerce ; Economics -- Economic disciplines -- Financial economics ; Business -- Business operations -- Commerce ; Economics -- Economic disciplines -- Financial economics
Is Part Of: Management Science, 1 August 2011, Vol.57(8), pp.1438-1452
Description: This paper analyzes the interactions between competitive (wholesale) spot, retail, and forward markets and vertical integration in electricity markets. We develop an equilibrium model with producers, retailers, and traders to study and quantify the impact of forward markets and vertical integration on prices, risk premia, and retail market shares. We point out that forward hedging and vertical integration are two separate mechanisms for demand and spot price risk diversification that both reduce the retail price and increase retail market shares. We show that they differ in their impact on prices and firms' utility because of the asymmetry between production and retail segments. Vertical integration restores the symmetry between producers' and retailers' exposure to demand risk, whereas linear forward contracts do not. Vertical integration is superior to forward hedging when retailers are highly risk averse. We illustrate our analysis with data from the French electricity market.
Identifier: ISSN: 00251909 ; E-ISSN: 15265501

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