This paper investigates electric utility behavior under the SO2 allowance market in Phase I. The probit model shows that cost recovery rules promoted high sulfur coal usage for utilities located in states with coal mines. A simulation shows that protecting these local coal industry increased high sulfur coal usage by 50%. Another finding is that the uncertainty of PUC regulations pushed utilities from the allowance market toward fuel switching/blending. Since the second effect was stronger than the first, the overall PUC regulations contributed to an unexpectedly low allowance price at the beginning of Phase I.
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