Tax, kill or bill: An analysis of unilateral CO2 price floor options in multilateral emissions trading systems

Abstract

As more governments consider minimum domestic CO2 prices, we investigate three unilateral options for jurisdictions operating within a multilateral emissions trading system (ETS): 1) an additional CO2TAX; 2) an auction reserve policy to KILL (invalidate) allowances; and 3) an overcompliance requirement to BILL domestic emitters for extra allowances per ton of emissions. We assess three main economic incentives for unilateral action: environmental benefits, fiscal benefits, and terms-of-trade gains. We derive theoretically optimal unilateral price floors and, based on numerical simulations for the EU ETS, illustrate how a national government's preferred strategy depends on how it values fiscal versus environmental benefits.