Environmental Policy and Incentives to Adopt Abatement Technologies Under Endogenous Uncertainty

Government of the Italian Republic (Italy), Ministry of Economy and Finance, Department of the Treasury Working Paper No. 5

32 Pages Posted: 10 May 2013 Last revised: 17 Jul 2014

See all articles by Federico Boffa

Federico Boffa

Università degli Studi di Macerata

Stefano Clò

University of Milan - Department of Economics, Management and Quantitative Methods (DEMM)

Alessio D'Amato

University of Rome Tor Vergata - Faculty of Economics

Date Written: April 19, 2013

Abstract

We compare a carbon tax and a cap and trade mechanism in their propensity to induce carbon-reducing technological adoption, when investments are undertaken under uncertainty. In our setting, risk-neutral firms affect the variance and the correlation of the shocks they are exposed to through their technological choice, making uncertainty endogenous. We find that uncertainty associated with a given technology always impacts expected profits under a carbon tax, while under a cap and trade this is the case only as long as the shocks are not correlated across the firms; if, instead, shocks are perfectly correlated, uncertainty has no impact on profits. As a result, we show that, while under a carbon tax, initially symmetric firms tend to have symmetric strategies in equilibrium (either of adoption, or non adoption), a cap and trade system might also induce asymmetric adoption. Finally, we discuss several policy applications of our work, including an analysis of the effects of combining feed-in tariffs with carbon tax or cap and trade.

Keywords: carbon tax, cap and trade, technology adoption, endogenous uncertainty

JEL Classification: L5, Q58, O33

Suggested Citation

Boffa, Federico and Clò, Stefano and D'Amato, Alessio, Environmental Policy and Incentives to Adopt Abatement Technologies Under Endogenous Uncertainty (April 19, 2013). Government of the Italian Republic (Italy), Ministry of Economy and Finance, Department of the Treasury Working Paper No. 5, Available at SSRN: https://ssrn.com/abstract=2262688

Federico Boffa (Contact Author)

Università degli Studi di Macerata ( email )

Via Angeloni 3
Jesi, Ancona 60035
Italy
+393358218861 (Phone)

Stefano Clò

University of Milan - Department of Economics, Management and Quantitative Methods (DEMM) ( email )

Via Conservatorio, 7
Milan, 20122
Italy

Alessio D'Amato

University of Rome Tor Vergata - Faculty of Economics ( email )

Via Columbia n.2
Rome, rome 00100
Italy

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