Scandinavian Working Papers in Economics

SITE Working Paper Series,
Stockholm School of Economics, Stockholm Institute of Transition Economics

No 47: Financial Contracts as Coordination Device

Chloe Le Coq () and Sebastian Schwenen ()
Additional contact information
Chloe Le Coq: Stockholm Institute of Transition Economics, Postal: Stockholm Institute of Transition Economics, Stockholm School of Economics, P.O. Box 6501, SE-113 83 Stockholm, Sweden
Sebastian Schwenen: Technical University of Munich (School of Management), Postal: Technical University of Munich , School of Management, 80333 München, Arcisstraße 21 , Germany

Abstract: We study the use of fi nancial contracts as bid-coordinating device in multi-unit uniform price auctions. Coordination is required whenever firms face a volunteer's dilemma in pricing strategies: one firm (the "volunteer") is needed to increase the market clearing price. Volunteering, however, is costly, as inframarginal suppliers sell their entire capacity whereas the volunteer only sells residual demand. We identify conditions under which signing financial contracts solves this dilemma. We test our framework exploiting data on contract positions by large producers in the New York power market. Using a Monte Carlo simulation, we show that the contracting strategy is payoff dominant and provide estimates of the benefits of such strategy.

Keywords: Auctions; Coordination; Volunteers dilemma; Forward markets; power market

JEL-codes: D21; D44; L41

24 pages, April 24, 2019

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