Price regimes in an energy island: Tacit collusion vs. cost and network explanations

- High wholesale power prices in Sicily despite increasing renewables penetration.
- Testing four explanations: cost, congestion, static market power, tacit collusion.
- Regime switching models with fixed and time-varying transition probabilities.
- Load, renewables, market power, congestion affect price and switch probabilities.
- The pattern of estimated coefficients is consistent with tacit collusion.

In this paper, we explore the determinants of wholesale electricity prices in an energy island such as Sicily, by estimating regime switching models with fixed and time-varying transition probabilities on daily data in the 2012-2014 period. Explanatory variables used alternatively in the price equation and in the switching equation include power demand, the supply of intermittent renewables, the residual supply index, and a congestion indicator. Four competing hypotheses on the determinants of price regimes are tested (arbitrary market power, cost profile, tacit collusion, congestion) in order to understand why, despite the general trend of declining prices induced by renewables in southern Italy, Sicilian prices stood high. The pattern of estimated coefficients is consistent with a tacit collusion story.