Integration of the global carbon markets

Abstract

This paper analyzes the market architecture and common factors of emission reduction instruments in Europe and North America. Spot and futures prices across exchanges in Europe are cointegrated, but the futures curve beyond the calendar year evolves independently. Despite narrower spreads, political uncertainties about the Clean Development Mechanism have kept EUA and CER prices from converging. RGGI allowances share a common trend with EUA, and the European markets adjust to the U.S. price trend. A $0:10 shock to RGGI prices leads to a one-month $0:64 cumulative increase in EUA prices. The introduction of cap and trade legislation in the U.S. has broken a cointegrating relationship in voluntary prices. Voluntary instruments that are convertible into mandatory allowances imply less than a 20% probability of price convergence between the U.S. and Europe by 2013.