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Characterizing Optimal Decarbonization Policies and Evaluating Variability

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  • Fikru, Mahelet G

    (Missouri University of Science and Technology)

  • Ahmed, Bruktawit

    (Missouri University of Science and Technology)

  • Daher, Wassim

Abstract

This study uses a two-stage game theoretic approach to derive and characterize optimal decarbonization policies, focusing on emission taxes and carbon capture and storage (CCS) subsidies. By maximizing a welfare function, the government first selects policy instruments, while carbon-intensive firms subsequently determine production levels and abatement efforts to maximize profit. The derived optimal policies are then analyzed through Monte Carlo simulations to assess their variability and sensitivity under different scenarios. Key findings are: (1) Emission tax and CCS subsidies are strategic substitutes where pollution damage governs this relationship, (2) The optimal policy mix could be a tax-only regime if carbon intensity exceeds a given threshold, otherwise the optimal policy mix either includes both instruments (if pollution damage is large enough) or is a subsidy-only regime (if pollution damage is not very large), (3) Optimal subsidies are relatively more variable than optimal emission taxes, and (4) Certainty in production and market parameters does not reduce optimal policy variability, but shifts the focus towards subsidies rather than taxes. These results highlight the need for flexible and adaptable decarbonization policies in dynamic markets with evolving technologies.

Suggested Citation

  • Fikru, Mahelet G & Ahmed, Bruktawit & Daher, Wassim, 2025. "Characterizing Optimal Decarbonization Policies and Evaluating Variability," OSF Preprints t2bzw_v1, Center for Open Science.
    • Handle: RePEc:osf:osfxxx:t2bzw_v1
    DOI: 10.31219/osf.io/t2bzw_v1
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