Working Paper: NBER ID: w26537
Authors: Lawrence H. Goulder; Xianling Long; Jieyi Lu; Richard D. Morgenstern
Abstract: China is planning to implement the largest CO₂ emissions trading system in the world. To reduce emissions, the system will be a tradable performance standard (TPS), an emissions pricing mechanism that differs significantly from the emissions pricing instruments used in other countries, such as cap and trade (C&T) and a carbon tax. We employ matching analytically and numerically solved models to assess the cost-effectiveness and distributional impacts of China’s forthcoming TPS for achieving CO₂ emissions reductions from the power sector.\nWe find that the TPS’s implicit subsidy to electricity output has wide-ranging consequences for both cost-effectiveness and distribution. In terms of cost-effectiveness, the subsidy disadvantages the TPS relative to C&T by causing power plants to make less efficient use of output-reduction as a way of reducing emissions (indeed, it induces some generators to increase output) and by limiting the cost-reducing potential of allowance trading. In our central case simulations, TPS’s overall costs are about 47 percent higher than under C&T. At the same time, the TPS has distribution-related attractions. Through the use of multiple benchmarks (maximal emission-output ratios consistent with compliance), it can serve distributional objectives. And because it yields smaller increases in electricity prices than a comparable C&T system, it implies less international emissions leakage.
Keywords: CO2 emissions trading; tradable performance standard; cost-effectiveness; distributional impacts
JEL Codes: H23; Q43; Q48; Q5; Q54
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| TPS's implicit output subsidy (H23) | less efficient use of output reduction (D61) |
| less efficient use of output reduction (D61) | higher overall costs (J32) |
| TPS's implicit output subsidy (H23) | higher overall costs (J32) |
| multiple benchmarks (C52) | reduces cost-effectiveness (D61) |
| implicit subsidy (H23) | reduces gains from allowance trading (H23) |
| TPS encourages generators to increase output (L94) | exacerbating emissions (Q54) |
| TPS (F13) | smaller increase in electricity prices (L97) |
| smaller increase in electricity prices (L97) | less international emissions leakage (F64) |