Electricity Market Mergers with Endogenous Forward Contracting

Summary: We analyze the effects of electricity market mergers in an environment where firms endogenouslychoose their level of forward contracts prior to competing in the wholesale market. We apply our modelto Alberta’s wholesale electricity market. Firms have an incentive to reduce their forward contractcoverage in the more concentrated post-merger equilibrium. We demonstrate that endogenous forwardcontracting magnifies the price increasing impacts of mergers, resulting in larger reductions in consumersurplus. Current market screening procedures used to analyze electricity mergers consider firms’ preexistingforward commitments. We illustrate that ignoring the endogenous nature of firms’ forwardcommitments can yield biased conclusions regarding the impacts of market structure changes such asmergers. In particular, we show that the price effects of mergers can be largely underestimated whenforward contract quantities are held at pre-merger levels. Whether the profits of the merged firm aregreater with fixed or endogenous forward quantities is ambiguous.