Cost Pass-Through of the EU Emissions Allowances: Examining the European Petroleum Markets

Using advanced time-series techniques, this paper explores the ability of European refineries to pass-through costs associated with the introduction of the EU Emissions Trading Scheme (ETS). The paper thereby fills, the gap in the literature by analysing the interactions between petrol prices and emissions allowances allocated to the refining industry under the EU ETS at the single country level. The analysis is conducted within a multi-national framework and as comprehensive as the weekly data permits, covering 14 EU member states. Given the nonstationarity of variables and the existence of the long-run relationships between the analysed time series, the application of a vector error correction model (VECM) is appropriate. These econometric techniques allow tracking a price transmission process which is induced by the EU ETS in general and by free allocation of allowances in particular while accounting for short-run and long-run dynamics. Our econometric analysis shows that refineries were capable to pass-through prices of EUAs to consumers during the first trading period 2005–2007. It also discloses the heterogeneity across the EU member states in long- and short-run responses of petrol prices to movements of EUA prices. We run two alternative specifications of the VECM at the country level to check the robustness of the results. Our central finding questions the policy outcome in which emissions from the refining sector will be largely benefiting from free allocation of allowances from 2013 onwards, whereas the power sector falls fully under the auctioning regime. This measure has been introduced to minimise the undesirable distribution impacts that resulted from handing out free permits to the power sector in the "warm-up phase". This paper shows that adverse distributional impacts were also present over the same time horizon in the refining sector.

Alexeeva-Talebi, Victoria (2010), Cost Pass-Through of the EU Emissions Allowances: Examining the European Petroleum Markets, ZEW Discussion Paper No. 10-086, Mannheim.