Taxation within electricity auctions with dominant firm

Abstract

This paper gives an additional contribution to the literature on environmental policy under imperfect competition. It aims at exploring how imperfect competition can affect the performance of environmental policy. The focus is on pollution taxes and power generation which is a particularly interesting case for three reasons. First it is one of the most important environmentally regulated markets. Second the demand for electricity varies cyclically over time (for example on hourly basis). Third the pricing mechanism is a multi-period and multi-unit first price auctions. The main finding of the analysis is that, looking at the entire demand cycle, it is very unlikely (virtually impossible) that under imperfect competition taxation could increase emissions although, according to a part of the current literature, in principle pollution may increase in the short-run within specific cycle periods. Moreover this may happen under specific and unlikely conditions although, unlike what this literature suggests, large asymmetry of firms and extreme curvature of demand are not strictly necessary.