Manipulation via endowments: Quantifying the influence of market power on the emission trading scheme

Abstract

We introduce a two-stage game to analyze the strategic behaviors among participants in an emissions trading scheme (ETS). The classical Hahn–Westskog model predicts market performance only when there is at most one dominant agent in the ETS. Our model assumes that all noncooperative agents can influence the market through the manipulation via endowments (MvE) (i.e., initial allowances), and then coordinate the allowances trading to share the associated compliance costs. We show the existence and characteristics of the Cournot–Nash–Walras (CNW) equilibrium and numerically simulate regional allowance trading in China based on the MvE model. Our theoretical and quantitative analyses show promising properties of the proposed model, which can be considered as an alternative approach to analyzing the market power in an ETS market. The MvE model predicts a stable CNW equilibrium independent of the set of strategic players when the strategic behavior of allowance sellers and buyers are considered.