Abstract
The degree to which the law of one price holds (integration) along with determining each individual markets’ role in price discovery is examined for 11 major natural gas markets, six from the USA and five from Canada. Deregulation, technological advances, and trade agreements have opened the USA’s and Canada’s natural gas market to new and extensive interactions. The 11 natural gas market prices are tied together with ten long-run co-integration relationships with all markets included in the co-integration space, providing evidence the markets are integrated. The degree of integration varies by region. Markets geographically adjacent to each other tend to be more highly integrated than markets separated by distance. Further results indicate that there is no clear price leader among the 11 markets. Including more US and Canadian markets than previous studies, show markets in both eastern and western USA and Canada are important in the price discovery process.
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Notes
Following Wang and Bessler (2005), the use of Hannan and Quinn loss metric for selection of the number of co-integrating vectors was also explored. Hannan and Quinn suggested either 10 or 11 co-integrating vectors, depending on placement of the constant. Both selection procedures agree in a high number of co-integrating vectors, although there is some question on the exact number. Innovation accounting results, presented here, impose ten co-integrating vectors. Similar results, however, are found when eight through ten vectors are imposed.
The result of undirected edges is problematic and has been the object of a yet evolving the literature on inductive inference under asymmetric data. Application of Independent Component Analysis (Hyvärinen et al. 2001) by Shimizu et al. (2006) may offer less ambiguous results for non-Gaussian data. Independent Component Analysis uses higher moments of the data than used by the GES algorithm which relies on only the first two moments (correlation) of the data.
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Olsen, K.K., Mjelde, J.W. & Bessler, D.A. Price formulation and the law of one price in internationally linked markets: an examination of the natural gas markets in the USA and Canada. Ann Reg Sci 54, 117–142 (2015). https://doi.org/10.1007/s00168-014-0648-7
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DOI: https://doi.org/10.1007/s00168-014-0648-7