Does increasing auctioning in the EU ETS increase companies' search efforts for favourable trading options?

Abstract

The European Emissions Trading System was established in 2005 and regulates greenhouse gas emissions across energy, industry, and aviation sectors in EU Member States. Since 2013, the share of auctioned allowances has increased, and will further increase in the future. A higher share of auctioning is generally considered to improve efficiency of an emissions trading system. However, increased auctioning may increase search activity on the secondary market because it increases companies' financial incentives to find more favourable trading options, potentially undermining efficiency gains of auctioning compared to free allocation. Employing trading and company data from 2005 to 2017, this study empirically examines if increased auctioning affects companies' search for favourable secondary market trading options, specifically in terms of the number of trading partners and trading frequency. Results from estimating panel econometric models suggest that companies with a higher absolute net position value and higher banking stock value indeed intensify their secondary market search activities, ceteris paribus. Because the size effects appear to be rather small, however, any additional search costs are likely to be more than offset by the positive effects of a higher auction share compared to free allocation.