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INEFFICIENCIES AND MARKET POWER IN FINANCIAL ARBITRAGE: A STUDY OF CALIFORNIA'S ELECTRICITY MARKETS *
Author(s) -
BORENSTEIN SEVERIN,
BUSHNELL JAMES,
KNITTEL CHRISTOPHER R.,
WOLFRAM CATHERINE
Publication year - 2008
Publication title -
the journal of industrial economics
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 0.93
H-Index - 77
eISSN - 1467-6451
pISSN - 0022-1821
DOI - 10.1111/j.1467-6451.2008.00344.x
Subject(s) - arbitrage , inefficiency , incentive , market power , yield (engineering) , electricity market , electricity , spot contract , economics , profit (economics) , financial market , forward contract , business , market price , monetary economics , financial economics , microeconomics , finance , monopoly , futures contract , materials science , electrical engineering , metallurgy , engineering
For two years prior to the collapse of California's restructured electricity market, power traded in both a forward and a spot market for delivery at the same times and locations. Nonetheless, prices in the two markets often differed in significant and predictable ways. This apparent inefficiency persisted, we argue, because most firms believed that trading on inter‐market price differences would yield regulatory penalties. For the few firms that did make such trades, it was not profit‐maximizing to eliminate the price differences entirely. Skyrocketing prices in 2000 changed the major buyers' (utilities') incentives and exacerbated the price differentials between the markets.