Permit Price Dynamics in the U.S SO2 Trading Scheme: a Cointegration Approach

The aim of this paper is to study empirically the determination and the dynamic behaviour of the SO2 permit prices. Previous research focused on ex-post market price analysis without taking weather conditions into account. Therefore, this study attempts to fill a gap in the literature by providing new empirical evidence on the SO2 price evolution and its interactions with macroeconomic variables, microeconomic variables and climate variables. Using monthly data from January 1995 to December 2006, our estimation results indicate the existence of a long-term relationship between SO2 permit price, the three-month treasury constant maturity rate and weather conditions. In the short run, SO2 permit price is mostly affected by scrubbing costs, the three-month treasury constant maturity rate and weather conditions. The empirical evidence suggests the stability of our model for the whole period in the long-and short-run which would make possible the forecasting of SO2 permit price.