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Inducing Clean Technology in the Electricity Sector: Tradable Permits or Carbon Tax Policies?

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  • Yihsu Chen
  • Chung-Li Tseng

Abstract

Tradable permits and carbon taxes are two market-based instruments commonly considered by policymakers to regulate pollutions. While a tax is fixed, predetermined by authorities, the uncertain permits price is driven by market dynamics, fluctuating with the prices of natural gas and electricity. Both instruments offer firms different incentives for adopting clean technologies. This paper explores the optimal investment timing when a coal-fired plant owner considers introducing clean technologies in face of these two policies using a real options approach. We find that tradable permits could effectively trigger adopting clean technologies at a considerably lower level of carbon price relative to a tax policy. Higher levels of volatility in permit prices are likely to induce suppliers to take early actions to hedge against carbon risks. Thus, offset and other price control mechanisms, which are designed to reduce permit prices or to suppress prices volatility, are likely to delay clean technology investments.

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Bibliographic Info

Article provided by International Association for Energy Economics in its journal The Energy Journal.

Volume (Year): Volume 32 (2011)
Issue (Month): Number 3 ()
Pages: 169-174

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Handle: RePEc:aen:journl:32-3-a06

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Cited by:
  1. Cyril Monnet & Ted Temzelides, 2014. "Monetary Emissions Trading Mechanisms," CESifo Working Paper Series 4633, CESifo Group Munich.
  2. Alexander Brauneis & Michael Loretz & Roland Mestel & Stefan Palan, 2011. "Inducing Low-Carbon Investment in the Electric Power Industry through a Price Floor for Emissions Trading," Working Papers 2011.74, Fondazione Eni Enrico Mattei.
  3. McKibbin, Warwick J. & Morris, Adele C. & Wilcoxen, Peter J., 2014. "Pricing carbon in the U.S.: A model-based analysis of power-sector-only approaches," Resource and Energy Economics, Elsevier, vol. 36(1), pages 130-150.
  4. Federico Boffa & Stefano Clò & Alessio D'Amato, 2013. "Environmental policy and incentives to adopt abatement technologies under endogenous uncertainty," Working Papers 5, Department of the Treasury, Ministry of the Economy and of Finance.
  5. Silvia Albrizio & Helia Costa, 2012. "Policy Uncertainty and Investment in Low-Carbon Technology," Economics Working Papers ECO2012/27, European University Institute.

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