The Grey Paradox: How Oil Owners Can Benefit From Carbon Regulation

This paper studies how oil owners can benefit from carbon taxation. We build a Hotelling-like model with three energy resources: oil (exhaustible, polluting), coal (non exhaustible, very polluting) and solar energy (non exhaustible, non polluting). The CO2 concentration must be kept under a carbon ceiling. The optimal extraction path is decentralized by a tax on emissions, and tax revenues are not redistributed. We characterize the different extraction paths. We focus on the case where both oil and coal are extracted and oil gets exhausted. When oil is cheaper to extract than coal, if oil is sufficiently scarce, or if the extraction cost of oil is close enough to the extraction cost of coal or if its pollution content is low enough, or if the demand elasticity is low enough, the profits of oil owners will increase when the carbon regulation is tightened. When oil is more expensive to extract than coal, and both resources are used and oil exhausted, tightening the carbon regulation increases the oil profits.