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Subsidizing energy saving capital accumulation: a real option approach

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  • Bruno CRUZ
  • Aude POMMERET

Abstract

Some environmental policies, like tax credit, have tried to induce the acquisition of energy efficient units and the replacement of old energy inefficient vintages. However, they have faced the energy paradox that is a slow diffusion of new vintages. We develop a stochastic model of irreversible investment, in which firms also face embodied technological progress. We compare in a dynamic example a deterministic and a stochastic model with embodied technological progress. In the embodied case under uncertainty, the option to postpone replacement becomes very large, reducing drastically the effectiveness of a tax credit.

Suggested Citation

  • Bruno CRUZ & Aude POMMERET, 2003. "Subsidizing energy saving capital accumulation: a real option approach," Cahiers de Recherches Economiques du Département d'économie 03.14, Université de Lausanne, Faculté des HEC, Département d’économie.
    • Handle: RePEc:lau:crdeep:03.14
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    References listed on IDEAS

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    1. Malcomson, James M., 1975. "Replacement and the rental value of capital equipment subject to obsolescence," Journal of Economic Theory, Elsevier, vol. 10(1), pages 24-41, February.
    2. Kevin A. Hassett & Gilbert E. Metcalf, 1992. "Energy Tax Credits and Residential Conservation Investment," NBER Working Papers 4020, National Bureau of Economic Research, Inc.
    3. Pindyck, Robert S, 1988. "Irreversible Investment, Capacity Choice, and the Value of the Firm," American Economic Review, American Economic Association, vol. 78(5), pages 969-985, December.
    4. Greenwood, Jeremy & Hercowitz, Zvi & Krusell, Per, 1997. "Long-Run Implications of Investment-Specific Technological Change," American Economic Review, American Economic Association, vol. 87(3), pages 342-362, June.
    5. Aude Pommeret & Bruno Cruz, 2004. "Optimal Capital Accumulation and Embodied Technological Progress under Uncertainty," Econometric Society 2004 Latin American Meetings 33, Econometric Society.
    6. Raouf BOUCEKKINE & Aude POMMERET, 2000. "Optimal Capital Accumulation, Energy Cost and the Nature of Technological Progress," LIDAM Discussion Papers IRES 2001023, Université catholique de Louvain, Institut de Recherches Economiques et Sociales (IRES).
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    More about this item

    Keywords

    embodied technological progress; tax credit; option value;
    All these keywords.

    JEL classification:

    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
    • E22 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Investment; Capital; Intangible Capital; Capacity
    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy; Modern Monetary Theory
    • H22 - Public Economics - - Taxation, Subsidies, and Revenue - - - Incidence

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