An overview of CO2 cost pass-through to electricity prices in Europe

This paper investigates the link between wholesale electricity prices in Europe and the CO2 cost, i.e. the price of European Union Allowances (EUAs), over the two first phases of the European Union Emissions Trading Scheme (EU ETS). We set up a theoretical framework and an empirical model to estimate to what extent daily fluctuations of CO2 costs may have impacted electricity prices. Regarding estimation results for the first phase of the EU ETS, about 42% of estimated pass-through rates appear to be statistically significant, while only one third of them are statistically different from zero in the second phase. We try to improve those results by proposing alternative estimates based on the EU ETS compliance periods. - Highlights: • We model the pass-through of CO2 costs to wholesale power markets in Europe. • Our theoretical approach allows the possibility of negative pass-through rates. • The empirical estimates prove to be less significant in Phase 2 compared to Phase 1. • The focus on the compliance periods enhances the significance of the results. • The absence of CO2 cost pass-through in 2009 is mainly due to the economic crisis