Comparison with Related Studies and Limitations

The results of this study are in line with the findings of previous literature assessing the impact of climate change on consumers’ welfare in which an overall increase in electricity expenditures is found (Rosenthal and Gruenspecht, 1995; Mansur et al., 2008; and V´eliz

et al., 2013a. 8 9 Overall and regardless of the methodology or the data used in these analyzes, the main difference between the cost estimates in previous analyzes and the ones generated in this study is that previous articles understate the impact of a warming climate on electricity expenditures because they assume that the price of electricity will not be affected by climate change. In our study I do account for this effect.

In the present study I assume that consumers pay a price equal to the locational marginal price in each load zone. However, the retail price is a fixed rate that reflects the average cost of the service provided by the electrical utility which also includes the cost of transmission and distribution of electricity to every point of the grid (Chao, 2010a). Further analysis on the structure of these retail rates is required to assess more precisely how electricity marginal prices are transferred to consumers.

Our estimates of the effect of demand on electricity price would be challenged if in the New England’s wholesale market large electricity suppliers exercise market power and increase the hourly price above their marginal cost. This literature has stressed that large electricity suppliers can exercise market power and increase the hourly price above their 8_{V´eliz et al. (2013a) find an increment in the average electricity bill of residential consumers due to}

climate change for the forty eight contiguous states. For instance, for an increase of 2◦C in GMT in year

2070 they estimate a rise in the residential, commercial and industrial average annual bills in Massachusetts of 18% ($17 in 2009 dollars), 6% ($35 in 2009 dollars), and 2% ($244 in 2009 dollars), respectively. Thus, the final weighted average impact across sectors is 9%. Even though this number is not directly comparable with our estimated impact of 5.8% because the methodologies used in these two analyzes differ in many ways, there are two factors that explain this difference. First, the electricity demand models examined by

V´eliz et al. (2013a) use weather–related variables that rely on monthly temperature as opposed to hourly

values used in the present study, which are taken from V´eliz et al. (2013b). Second, elasticities computed

for cooling by the former study are larger than those computed by the latter (the elasticities for heating are similar in both studies). For example, in the residential sector V´eliz et al. (2013a) estimate an elasticity

for cooling that is fifty percent higher than the one computed by V´eliz et al. (2013b): βcdd = 2.630 as

opposed to βcdh = 1.740. Given that the change in cooling due to global warming is the same in both

studies, different coefficients lead to different estimation of impacts on consumers electricity expenditures.

9

The general consensus in the literature is that climate change increases electricity expenditures, and so causes a welfare loss for consumers. However, I find one peer-review study that contradicts this statement and predicts a monetary saving for consumers of electricity. Pilli-Sihvola et al. (2010) find that in Northern Europe climate change causes a reduction in heating expenditures that outweighs the rise in cooling costs.

marginal cost. Wolak (2003) finds that the price increases in California during June to September 2000 are due to a large increase in the amount of market power possessed by large suppliers. However, there are two studies that conclude that this is not the case. Bushnell and Saravia (2002) and Bushnell et al. (2008) compare the results of Wolak (2003) for California with estimates of market power for New England. Their findings show that suppliers in New England had less incentive to manipulate prices than in California, mainly due to the existence of long-term contracts (as well as vertical relationships), which are forbidden in California. These contracts imply that firms commit part of their output at fixed prices to retail consumers, and therefore have a smaller position on the wholesale market and less incentive to manipulate the price. Therefore, even though price manipulation due to the exercise of market power might be present in the New England system, it is much less prevalent than in the Californias system.

An additional limitation to take into account is the capital cost associated with the installation of new air conditioners, which is assumed to be constant in this study. Climate change will likely produce that consumers not only use their current air conditioning units more intensively, but also increase the market saturation of air conditioning (Sailor and Pavlova, 2003). If I take the estimates by V´eliz et al. (2013b) and assume that all the increase in energy between May and September will come from new window air conditioning units, one in every three households will require a new air conditioner. This would imply an aggregated cost of $335 million (in 2009 dollars) to all households in Massachusetts.10 Therefore, our net present value estimates can be thought as a lower bound of the total impact of climate change on consumer electricity expenditures.

10

This exercise assumes a standard 12,000 BTU window air conditioning unit of 1,110 W which operates 12 hours per day from May to September and has a cost of $300 (in 2009 dollars).