Abstract
This paper finds that it is optimal to start a long-term emission-reduction strategy with significant short-term abatement investment, even if the optimal carbon price starts low and grows progressively over time. Moreover, optimal marginal abatement investment costs differ across sectors of the economy. It may be preferable to spend $25 to avoid the marginal ton of carbon in a sector where abatement capital is expensive, such as public transportation, or in a sector with large abatement potential, such as the power sector, than $15 for the marginal ton in a sector with lower cost or lower abatement potential. The reason, distinct from learning spillovers, is that reducing greenhouse gas emissions requires investment in long-lived abatement capital such as clean power plants or public transport infrastructure. The value of abatement investment comes from avoided emissions, but also from the value of abatement capital in the future. The optimal leveled cost of conserved carbon can thus be higher than the optimal carbon price. It is higher in sectors with higher investment needs: those where abatement capital is more expensive or sectors with larger abatement potential. We compare our approach to the traditional abatement-cost-curve model and discuss implications for policy design.
Highlights
This paper finds that it is optimal to start a long-term emission-reduction strategy with significant short-term abatement investment, even if the optimal carbon price starts low and grows progressively over time
Once all the buildings are energy neutral, no more greenhouse gas (GHG) can be saved in the building sector; and if every coal power plant is replaced with renewable power, the abatement potential of the power sector is depleted
Optimal marginal abatement investment costs, expressed in dollars invested per discounted abated ton of carbon, can be higher than the carbon price
Summary
We start the resolution of problem 6 from the steady state. The cumulative emission ceiling B is reached at an endogenous date T. The exponentially-increasing carbon price is reminiscent of an Hotelling rule It ensures that the present value of the carbon price is constant along the optimal path until full decarbonization, such that the social planner (or the market) is indifferent between one unit of abatement at any two dates.. Consider the taxi company faces two similar vehicles available for rent, differing only in their carbon emissions and rental price. Equation 9 suggests the company will chose the cleaner vehicle for a given year if and only if the difference in rental costs (in dollars per vehicle per year) is lower or equal to avoided emissions (in tons of carbon per year per vehicle) valued at the carbon price that year (in dollars per ton). D t or (ii) lend money at the interest rate r (Jorgenson, 1967)
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