Cost pass-through in the retail electricity market: Vertically integrated versus independent retailers

Abstract

This paper estimates cost pass-through rates for retail electricity prices in New Zealand. The dataset comprises monthly panel data for 340 electricity plans from January 2018 to May 2023. We estimate not only the pass-through of total costs but also the pass-through for the two main components of total costs — the lines costs (transmission and distribution costs) and generation costs. The generation cost is measured using a wholesale market price of generation. First, we find that vertically integrated retailers have a lower pass-through rate (for total costs) than independent retailers. Second, the pass-through rate is lower for generation costs than for lines costs. These two results are related: whereas vertically integrated and independent retailers pass-through a similar fraction of their lines costs, independent retailers pass-through significantly more of their generation costs than vertically integrated retailers. Our findings suggest that vertically integrated retailers respond to generation costs very differently than independent retailers. This may be because, for vertically integrated retailers, wholesale market prices for generation are simply an opportunity cost, while for independent retailers it is an actual cost. Our findings motivate further theoretical work into the different responses of vertically integrated and independent retailers.