ThE poTENTIAL foR AbUSES IN ThE CARboN dERIVATIVES MARkET
major regulatory concern in carbon mar- kets is their susceptibility to manipulation. First consider the potential for a market power manipulation. Market power manipulations in commodities such as soybeans or copper typi- cally exploit the costs of enhancing deliverable supplies. Physical commodity futures contracts typically specify that delivery can occur at a small number of locations. It is oen physically possible to enhance supplies in this market in response to a corner, but due to the costs of transportation, and the costs of distorting the ow of commodi- ties, it is costly to do so. e manipulator exploits this cost by demanding a premium to sell his con- tracts that is just below the cost that those who had sold contracts to him would incur to bring additional deliverable supplies to market. us, physical commodity market corners exploit the costs of moving commodities. A
Put dierently, transportation costs and other fric- tions make the supply curve of deliverable com- modities slope up. e manipulator can cause the price of the deliverable to rise by forcing the market up that supply curve. In theory, such costs are com- pletely absent in carbon markets. Carbon emissions rights will be represented by electronic entries in a central registry that are transferrable at a trivial
cost. us, it would appear at rst blush that a cor- ner or squeeze is not possible in carbon markets.
Reection on the experience in another market gives pause, however. Specically, squeezes occur period- ically in government securities markets, including the market for US Treasury notes and bonds. Just like carbon emissions permits, ownership of Trea- sury securities can be transferred electronically at trivial cost, yet squeezes occur nonetheless.
ese manipulations occur because there are other
frictions in the market. In particular, some owners of Treasury securities do not actively participate in the secondary market. ey purchase securities for investment and hold these instruments to maturi- ty. Not participating actively in the market, these traders may not make their securities available to those needing to make delivery against Treasury derivatives even when prices become distorted due to a squeeze. at is, the supply of Treasury secu- rities available for delivery may slope up because some owners are lured into the market only when price distortions are substantial.
In other words, the “oat” in a particular Trea- sury security may be far less than the amount out- standing.8 A trader who amasses a position that
e “oat” is the amount of the security actively traded in the market, and readily available for purchase or sale.
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