The energy price equivalence of carbon taxes and emissions trading—Theory and evidence

Abstract

The main purpose of this study is to estimate the energy price equivalence of carbon taxes and emissions trading in an energy market. To this end, both the carbon tax and emissions trading systems are designed in the theoretical model, while alternative market structures are taken into consideration. The theoretical findings show that the economic effects of these two schemes on energy prices depend on the market structures. Energy prices are equivalent between these two schemes given the same amount of greenhouse gas emissions (GHGE) reduction when the market structure is characterized by perfect competition. However, energy prices will be lower when a carbon tax is introduced than when emissions trading is implemented in an imperfectly competitive market, which implies that the price effects of a carbon tax and emissions trading depend on the energy market structure. Such a theoretical basis is applied to the market for gasoline in Taiwan. The empirical results indicate that the gasoline prices under a carbon tax are lower than under emissions trading. This implies that the structure of the energy market needs to be examined when a country seeks to reduce its GHGE through the implementation of either a carbon tax or emissions trading.