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Effects of Low-cost Offsets on Energy Investment -New Perspectives on REDD-

Author

Listed:
  • Sabine Fuss

    (International Institute of Systems Analysis)

  • Alexander Golub

    (Environmental Defense Fund)

  • Jana Szolgayova

    (International Institute of Systems Analysis and Comenius University)

  • Michael Obersteiner

    (International Institute of Systems Analysis)

Abstract

Tropical deforestation is one of the major sources of carbon emissions, but the Kyoto Protocol presently excludes avoiding these specific emissions to fulfill stabilization targets. Since the 13th Conference of the Parties (COP) to the UNFCCC in 2007, where the need for policy incentives for the reduction of emissions from deforestation and degradation (REDD) was first officially recognized, the focus of this debate has shifted to issues of implementation and methodology. One question is how REDD would be financed, which could be solved by integrating REDD credits into existing carbon markets. However, concern has been voiced regarding the effects that the availability of cheap REDD credits might have on energy investments and the development of clean technology. On the other hand, investors and producers are also worried that emissions trading schemes like the one installed in Europe might deter investment into new technologies and harm profits of existing plants due to fluctuations in the price of emissions permits. This paper seeks to contribute to this discussion by developing a real options model, where there is an option to invest in less carbon-intensive energy technology and an option to purchase credits on REDD, which you will exercise or not depending on the future evolution of CO2 prices. In this way, unresolved questions can still be addressed at a later stage, while producers and investors hold REDD options to maintain flexibility for later decisions. We find that investment in cleaner technology is not significantly affected if REDD options are priced as a derivative of CO2 permits. Indeed, the availability of REDD options helps to smooth out price fluctuations that might arise from permit trading and thus decreases risk for the producer - thereby being a complement to permit trading rather than an obstacle undermining cap-and-trade.

Suggested Citation

  • Sabine Fuss & Alexander Golub & Jana Szolgayova & Michael Obersteiner, 2009. "Effects of Low-cost Offsets on Energy Investment -New Perspectives on REDD-," Working Papers 2009.17, Fondazione Eni Enrico Mattei.
  • Handle: RePEc:fem:femwpa:2009.17
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    Cited by:

    1. Aline Chiabai, 2010. "Analysis and Use of Information and Communication Tools in Economics of Climate Change," Working Papers 2009-03, BC3.
    2. Valentina Bosetti & Ruben Lubowski & Alexander Golub & Anil Markandya, 2009. "Linking Reduced Deforestation and a Global Carbon Market: Impacts on Costs, Financial Flows, and Technological Innovation," Working Papers 2009.56, Fondazione Eni Enrico Mattei.
    3. Valentina Bosetti & Ruben Lubowski (ed.), 2010. "Deforestation and Climate Change," Books, Edward Elgar Publishing, number 13733.

    More about this item

    Keywords

    Real Options; Energy Investment; Cap-And-Trade; REDD;

    JEL classification:

    • Q23 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - Renewable Resources and Conservation - - - Forestry
    • Q28 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - Renewable Resources and Conservation - - - Government Policy

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