Diffusion of Climate Technologies in Presence of an Emissions Cap

The EU and other selected jurisdictions have independently expressed high ambitions for greenhouse gas (GHG) control. In absence of international, binding agreements the reliance in such proclamations by individual governments can, however, suffer. A uniform GHG pricing scheme, that would otherwise be a first-best strategy for meeting a national cap, may not be optimal if the agents perceive the durability of the scheme as uncertain. Given this assumption, this paper compares a uniform GHG pricing system with two second-best options, one which combines emissions pricing with subsidies to upfront investments in climate technologies, and one with a public guarantee arrangement that places the political risk on the shoulders of the government. We use a technology-rich, dynamic CGE model that accounts for abatement both within and beyond existing technologies, the latter through investments in alternative, climate-friendly technologies. We find that domestic climate policies unable to stimulate investments in new technological solutions will triple the costs of a uniform GHG pricing system. Subsidising investments is a remedy, though costly compared to a system that ensures commitment from the government.