Economic Growth, CO2 Emissions, and the Green Transition

This paper highlights the potential for decoupling economic growth from CO2 emissions under strong policy, while providing a tractable framework for analyzing the long-run global green transition. We develop a dynamic stochastic general equilibrium model with heterogeneous firms: green firms abate emissions at higher costs, while brown firms do not. Emissions reduce aggregate productivity but are not internalized in competitive equilibrium. Using global data from 1981 to 2022, we calibrate the model to match observed trends in GDP and emissions. The analysis delivers three main findings. First, while emissions continue to rise, the share of green firms grows over time. Second, faster technological progress amplifies the growth–emissions trade-off, whereas slower progress attenuates it. Third, welfare analysis shows that the optimal emission tax must be substantially higher than current levels, though its role is moderated when combined with abatement innovation. Together, these results underscore the importance of policy in sustaining growth while mitigating environmental externalities.