Recent research shows that efforts to limit climate change should focus on reducing emissions of carbon dioxide over other greenhouse gases or air pollutants. Many countries are paying substantial attention to carbon emissions to improve air quality and public health. The largest source of carbon emissions from human activities in some countries in Europe and elsewhere is from burning fossil fuels for electricity, heat, and transportation. The prices of fuel and carbon emissions can influence each other. Owing to the importance of carbon emissions and their connection to fossil fuels, and the possibility of Granger (1980) causality in spot and futures prices, returns and volatility of carbon emissions, crude oil and coal have recently become very important research topics. For the USA, daily spot and futures prices are available for crude oil and coal, but there are no daily futures prices for carbon emissions. For the EU, there are no daily spot prices for coal or carbon emissions, but there are daily futures prices for crude oil, coal and carbon emissions. For this reason, daily prices will be used to analyse Granger causality and volatility spillovers in spot and futures prices of carbon emissions, crude oil, and coal. As the estimators are based on QMLE under the incorrect assumption of a normal distribution, we modify the likelihood ratio (LR) test to a quasi-likelihood ratio test (QLR) to test the multivariate conditional volatility Diagonal BEKK model, which estimates and tests volatility spillovers, and has valid regularity conditions and asymptotic properties, against the alternative Full BEKK model, which also estimates volatility spillovers, but has valid regularity conditions and asymptotic properties only under the null hypothesis of zero off-diagonal elements. Dynamic hedging strategies using optimal hedge ratios are suggested to analyse market fluctuations in the spot and futures returns and volatility of carbon emissions, crude oil and coal prices.

Additional Metadata
Keywords Carbon emissions, Fossil fuels, Full BEKK, Granger causality and volatility spillovers, Low carbon targets and green energy, Quasi likelihood ratio (QLR) test of Diagonal, Spot and futures prices
JEL Financial Econometrics (jel C58), Mining, Extraction, and Refining: Hydrocarbon Fuels (jel L71), Agriculture; Natural Resources; Energy; Environment; Other Primary Products (jel O13), Natural Resources; Energy; Environment (jel P28), Alternative Energy Sources (jel Q42)
Persistent URL hdl.handle.net/1765/125301
Conference 22nd International Congress on Modelling and Simulation: Managing Cumulative Risks through Model-Based Processes, MODSIM 2017 - Held jointly with the 25th National Conference of the Australian Society for Operations Research and the DST Group led Defence Operations Research Symposium, DORS 2017
Citation
Chang, C-L, McAleer, M.J, & Zuo, G. (2017). Volatility spillovers and causality of carbon emissions, oil and coal spot and futures for the EU and USA. In Proceedings - 22nd International Congress on Modelling and Simulation, MODSIM 2017 (pp. 750–756). Retrieved from http://hdl.handle.net/1765/125301