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Carbon Prices for the Next Thousand Years

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  • Reyer Gerlagh
  • Matti Liski

Abstract

Climate is a persistent asset, bar none: changes in climate-related stocks have consequences spanning over centuries or possibly millennia to the future. To reconcile the discounting of such far-distant impacts and realism of the shorter-term decisions, we consider hyperbolic time-preferences in a climate-economy model. Time-changing utility discount rates have unexplored general-equilibrium effects: carbon prices exceed the pure carbon externality costs - the Pigouvian tax level - by multiple factors in our quantitative assessment. The climate-economy model is rich in details but can be solved in closed-form yielding Markov carbon prices dependent on climate system parameters, damage estimates, technology parameters, and both short- and long-term time preferences. The equilibrium time discount rate is endogenous, and it can justify high carbon taxes as advocated by Stern while maintaining the realism of the macroeconomic outcome, thus providing a solution for the dilemma centering the carbon tax-discount rate debate. The welfare ranking of the policy alternatives is unambiguous: enforcing the Pigouvian tax decreases a consistently-defined welfare measure vis-a-vis the Markov equilibrium.

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Paper provided by CESifo Group Munich in its series CESifo Working Paper Series with number 3855.

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Date of creation: 2012
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Handle: RePEc:ces:ceswps:_3855

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Keywords: carbon tax; discounting; climate change; inconsistent preferences;

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References

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  1. Andrew Caplin & John Leahy, 2004. "The Social Discount Rate," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 112(6), pages 1257-1268, December.
  2. Per Krusell & Burhanettin Kuruscu & Anthony A. Smith, Jr., 2000. "Temptation and Taxation," GSIA Working Papers, Carnegie Mellon University, Tepper School of Business 2001-12, Carnegie Mellon University, Tepper School of Business.
  3. Karp, Larry S, 2004. "Global warming and hyperbolic discounting," CUDARE Working Paper Series, University of California at Berkeley, Department of Agricultural and Resource Economics and Policy 0934R, University of California at Berkeley, Department of Agricultural and Resource Economics and Policy.
  4. Saez-Marti, Maria & Weibull, Jorgen W., 2005. "Discounting and altruism to future decision-makers," Journal of Economic Theory, Elsevier, Elsevier, vol. 122(2), pages 254-266, June.
  5. B. Douglas Bernheim & Antonio Rangel, 2008. "Beyond Revealed Preference: Choice Theoretic Foundations for Behavioral Welfare Economics," NBER Working Papers 13737, National Bureau of Economic Research, Inc.
  6. Per Krusell & Burhanettin Kuruscu & Anthony A. Smtih, Jr., . "Equilibrium Welfare and Government Policy with Quasi-Geometric Discounting," GSIA Working Papers, Carnegie Mellon University, Tepper School of Business 2001-06, Carnegie Mellon University, Tepper School of Business.
  7. Martin L. Weitzman, 2007. "A Review of the Stern Review on the Economics of Climate Change," Journal of Economic Literature, American Economic Association, American Economic Association, vol. 45(3), pages 703-724, September.
  8. Robert J. Barro, 1999. "Ramsey Meets Laibson In The Neoclassical Growth Model," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 114(4), pages 1125-1152, November.
  9. Manne, Alan & Mendelsohn, Robert & Richels, Richard, 1995. "MERGE : A model for evaluating regional and global effects of GHG reduction policies," Energy Policy, Elsevier, Elsevier, vol. 23(1), pages 17-34, January.
  10. Laibson, David I., 1997. "Golden Eggs and Hyperbolic Discounting," Scholarly Articles 4481499, Harvard University Department of Economics.
  11. Partha Dasgupta, 2008. "Discounting climate change," Journal of Risk and Uncertainty, Springer, Springer, vol. 37(2), pages 141-169, December.
  12. Karp, Larry, 2005. "Non-Constant Discounting in Continuous Time," Institute for Research on Labor and Employment, Working Paper Series, Institute of Industrial Relations, UC Berkeley qt0nn1t22z, Institute of Industrial Relations, UC Berkeley.
  13. B. Douglas Bernheim & Antonio Rangel, 2009. "Beyond Revealed Preference: Choice-Theoretic Foundations for Behavioral Welfare Economics-super-," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 124(1), pages 51-104, February.
  14. Christian Gollier & Richard Zeckhauser, 2005. "Aggregation of Heterogeneous Time Preferences," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 113(4), pages 878-896, August.
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Citations

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Cited by:
  1. Iverson, Terrence, 2012. "Optimal Carbon Taxes with Non-Constant Time Preference," MPRA Paper 43264, University Library of Munich, Germany.
  2. Lintunen , Jussi & Vilmi, Lauri, 2013. "On optimal emission control – Taxes, substitution and business cycles," Research Discussion Papers, Bank of Finland 24/2013, Bank of Finland.
  3. Michielsen, T.O., 2013. "Environmental Catastrophes Under Time-inconsistent Preferences," Discussion Paper, Tilburg University, Center for Economic Research 2013-013, Tilburg University, Center for Economic Research.
  4. Inge van den Bijgaart & Reyer Gerlagh & Luuk Korsten & Matti Liski, 2013. "A Simple Formula for the Social Cost of Carbon," Working Papers, Fondazione Eni Enrico Mattei 2013.83, Fondazione Eni Enrico Mattei.
  5. Armon Rezai & Frederick van der Ploeg & Cees Withagen, 2012. "The Optimal Carbon Tax and Economic Growth: Additive versus Multiplicative Damages," CEEES Paper Series CE3S-05/12, European University at St. Petersburg, Department of Economics.
  6. Geoffrey Heal & Antony Millner, 2013. "Uncertainty and Decision in Climate Change Economics," NBER Working Papers 18929, National Bureau of Economic Research, Inc.
  7. Grimaud, André & Rouge, Luc, 2014. "Carbon sequestration, economic policies and growth," Resource and Energy Economics, Elsevier, Elsevier, vol. 36(2), pages 307-331.
  8. Gerlagh, Reyer & Kverndokk, Snorre & Rosendahl, Knut Einar, 2014. "The optimal time path of clean energy R&D policy when patents have finite lifetime," Journal of Environmental Economics and Management, Elsevier, vol. 67(1), pages 2-19.
  9. repec:dgr:uvatin:2010020 is not listed on IDEAS
  10. Simon Dietz & Anca N. Matei, 2013. "Is there space for agreement on climate change? A non-parametric approach to policy evaluation," Grantham Research Institute on Climate Change and the Environment Working Papers, Grantham Research Institute on Climate Change and the Environment 136, Grantham Research Institute on Climate Change and the Environment.
  11. Larry S. Karp, 2012. "Provision of a Public Good with Altruistic Overlapping Generations and Many Tribes," CESifo Working Paper Series 3895, CESifo Group Munich.

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