Uncovering the nonlinear predictive causality between natural gas and electricity prices

Abstract

Wemeasure the directional predictability between electricity and natural gas prices at different quantiles of their respective price distributions. This reveals significant nonlinearities in the relationship that characterizes the interconnected gas and electricity markets of both NewEngland and Pennsylvania-NewJersey-Maryland.Weidentify a double causality fromgas to electricity and vice versa,which increases as their respectivemarket prices rise. In general, this causality is decidedly higher for both price sets at market values at and above their median. The feedback effect fromelectricity to gas is stronger in the case of NewEngland -where 50% of the power generation mix comprises natural-gas-fired plants - than it is in the case of Pennsylvania-NewJersey-Maryland - where only 24% of the generation mix relies on natural gas sources.