Capital Sunk, Emissions Locked: The Economics of Energy Transitions under Carbon Constraints

Optimal energy transitions are characterized in an economy where fossil energy requires dedicated conversion capital that is costly to reverse and where cumulative emissions are capped by an exogenous carbon budget. Short-run complementarity between fossil inputs and sector-specific capital interacts with intertemporal scarcity of the remaining budget. The optimal path typically selects an expansion regime, a production plateau, a decline regime, and a post-fossil steady state. The plateau is pinned down by the need to operate in order to amortize sunk conversion capital while the shadow value of remaining emissions rises over time. These forces generate non-monotone useful-energy prices and deliver sharp conditions under which dedicated fossil capital becomes stranded. Calibrated to global energy data, the baseline features a plateau of about 42 years accounting for 48% of cumulative emissions. Delaying policy by 20 years lowers welfare by 1.8% and strands $287 bn in assets; a 40-year delay lowers welfare by 4.3% and strands $532 bn. When explicit carbon taxation is infeasible, quantity instruments approximate the tax allocation in the calibration: a capacity cap and an investment ban deliver welfare losses of 0.8% and 1.2%, respectively.