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Emissions trading with rolling horizons

Quemin, Simon and Trotignon, Raphaël (2021) Emissions trading with rolling horizons. Journal of Economic Dynamics and Control, 125. ISSN 0165-1889

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Identification Number: 10.1016/j.jedc.2021.104099

Abstract

We develop an emission permits trading model where covered firms can (1) utilize rolling planning horizons to deal with uncertainty and (2) exhibit bounded responsiveness to supply-side control policies. We calibrate the model to reproduce annual market outcomes in the EU ETS over 2008–2018 and show that a rolling finite horizon reconciles the banking dynamics with discount rates implied by futures contracts’ yield curves. It also replicates the price dynamics well compared to a standard infinite horizon, including the new price regime induced by the 2018 market reform. We then use our calibrated model to decompose the impacts of the 2018 reform's design elements, quantify how they hinge on the firms’ horizon and responsiveness, and highlight important implications for policy design. For instance, when firms utilize rolling horizons, the Market Stability Reserve can improve effectiveness by frontloading abatement efforts and induce lower cumulative emissions compared to an infinite horizon.

Item Type: Article
Official URL: https://www.sciencedirect.com/journal/journal-of-e...
Additional Information: © 2021 Elsevier B.V.
Divisions: Grantham Research Institute
Subjects: G Geography. Anthropology. Recreation > GE Environmental Sciences
H Social Sciences > HB Economic Theory
JEL classification: D - Microeconomics > D8 - Information, Knowledge, and Uncertainty > D81 - Criteria for Decision-Making under Risk and Uncertainty
E - Macroeconomics and Monetary Economics > E6 - Macroeconomic Policy Formation, Macroeconomic Aspects of Public Finance, Macroeconomic Policy, and General Outlook > E63 - Comparative or Joint Analysis of Fiscal and Monetary Policy; Stabilization
H - Public Economics > H3 - Fiscal Policies and Behavior of Economic Agents > H32 - Firm
Q - Agricultural and Natural Resource Economics; Environmental and Ecological Economics > Q5 - Environmental Economics > Q58 - Government Policy
Date Deposited: 24 Jan 2022 10:36
Last Modified: 31 Jan 2022 10:42
URI: http://eprints.lse.ac.uk/id/eprint/113518

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