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General Equilibrium Impacts of a Federal Clean Energy Standard

  • Lawrence H. Goulder
  • Marc A. C. Hafstead
  • Roberton C. Williams III

Economists have tended to view cap and trade (or, more generally, emissions pricing) as more cost-effective than a clean energy standard (CES) for the purpose of reducing greenhouse gas emissions associated with electricity generation. This stems in part from the finding that, in terms of cost-effectiveness, a CES relies too much on emissions abatement through the channel of fuel-switching and too little on the channel of reduced electricity demand. Recent research reveals, however, that the CES has an advantage over cap and trade in a different dimension. In a realistic economy with prior taxes on factors of production, the adverse "tax-interaction effect" is smaller under the CES than under the equivalent cap-and-trade program. This raises the possibility that the CES might not suffer an overall disadvantage relative to cap and trade on cost-effectiveness grounds. This paper employs analytical and numerical general equilibrium models to assess the relative cost-effectiveness of the CES and an electricity-sector cap-and-trade program. These models reveal that a well-designed CES can be more cost-effective than cap and trade when relatively minor reductions in emissions are called for. Numerical simulations indicate that the cost-effectiveness of the CES is sensitive to what is deemed "clean" electricity. To achieve maximal cost-effectiveness, the CES must offer significant credit to electricity generated from natural gas.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 19847.

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Date of creation: Jan 2014
Date of revision:
Handle: RePEc:nbr:nberwo:19847
Note: EEE PE
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