Browsing by Author "Neill, Kelly"

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    Competition in Australia's Natural Gas Markets
    (2022-04-21) Neill, Kelly; Hartley, Peter; Perrigne, Isabelle; Medlock, Kenneth B
    Eastern Australia's domestic market for natural gas (hereafter ‘gas’) is deregulated. Daily uniform-price auctions are used to facilitate wholesale trade in gas at four major hubs. Similar to electricity auctions, bids take the form of supply schedules that specify the quantity of gas that firms are willing to inject at each price. The use of auctions for wholesale gas trade appears to be unique to Australia, and to my knowledge, this research is the first to study these markets outside of industry and government. The eastern Australian gas market is dominated by three large firms, which raises concerns about market power. The firms supply gas to the hubs, shipping it from production locations using the pipeline network. They also demand gas in the hubs because they have retail customers there. In this sense, the large firms are vertically integrated, and participate as both sellers and buyers in the gas auctions. Purchasing gas on behalf of retail customers reduces the firms’ incentive to use their market power to raise the price. However, gas use by each firm's retail customers is unobserved, because data is not available, so we cannot know then extent to which firms have incentive to mark-up the price. Therefore, I exploit variations between gas hubs to estimate gas use by firms' retail customers, without relying on estimating marginal costs. I find that the three large firms have only small net sales (or purchases) in the spot gas market, and conclude that markups (or markdowns) are small. Therefore, the daily auction price is likely to be indicative of marginal cost. Since both the gas and electricity markets are deregulated and organized as uniform-price auctions in eastern Australia, this is a unique opportunity to study the links between gas and electricity markets. The three large gas firms generate a significant volume of electricity, using all fuel types. I consider whether this market structure is detrimental for trade and competition. I also make a methodological contribution by undertaking the first estimation of a supply function equilibrium with asymmetric information. Two potential issues arise. First, when gas firms generate electricity from non-gas fuels, such as coal and renewables, they may have an incentive to raise the gas costs for rival gas-fired generators, because this would be passed through to higher electricity prices. I estimate that this incentive has raised the price of gas on average, but by a modest 0.8 percent. Second, when gas firms generate electricity using gas as a fuel, they can use the realized gas price to improve their forecast of their own future electricity generation levels. The resulting adverse selection problem leads to steeper gas-market supply schedules, and I estimate that this has reduced gains from trade by 10 percent on average. For the Australian market, adverse selection is more important, and increasing the frequency with which the gas market is cleared could improve market outcomes.