Cost Pass-Through in Strategic Oligopoly: Sectoral Evidence for the EU ETS

54 Pages Posted: 12 May 2011

See all articles by Viktoria Alexeeva-Talebi

Viktoria Alexeeva-Talebi

ZEW – Leibniz Centre for European Economic Research

Date Written: 2010

Abstract

Price adjustments, particularly the cost pass-through relationships, are at the core of the analysis on how asymmetric climate change policy initiates two channels of carbon leakage: (decreasing) market shares and profit margins. Using advanced time-series techniques, this paper explores the pass-through relationships in an oligopoly setting. Under the condition of oligopolistic competition with strategic interactions, the cost pass-through of domestic firms is restricted by strategic interactions with foreign competitors. The empirical section demonstrates that strategic pricing in the presence of the incomplete cost pass-through is by far the prevailing behaviour of German energy-intensive sectors participating in the EU Emissions Trading Scheme (ETS). The relatively low cost pass-through rates in the long-run in most sectors in our sample – in comparison to studies which do not account for strategic interactions – are consistent with earlier findings. Additional costs induced by the EU ETS are therefore likely to be absorbed through a reduction of profit margin, creating incentives to relocate business abroad. Policy implications of the results are that strategic interactions between domestic and foreign firms could be a critical factor in applying offsetting instruments to address carbon leakage domestically. Accounting for oligopolistic structures – with and without strategic interactions – should therefore be a central issue within the broader context of how market structure affects climate change policies.

Keywords: Cost Pass-Through, Strategic Oligopoly, Emissions Trading Scheme

JEL Classification: F18, C22, L11

Suggested Citation

Alexeeva-Talebi, Viktoria, Cost Pass-Through in Strategic Oligopoly: Sectoral Evidence for the EU ETS (2010). ZEW - Centre for European Economic Research Discussion Paper No. 10-056, Available at SSRN: https://ssrn.com/abstract=1674850 or http://dx.doi.org/10.2139/ssrn.1674850

Viktoria Alexeeva-Talebi (Contact Author)

ZEW – Leibniz Centre for European Economic Research ( email )

P.O. Box 10 34 43
L 7,1
D-68034 Mannheim, 68034
Germany

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