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M. E. Belfiori
Optimal Renewable Subsidies
The optimal renewable subsidy induces economic efficiency in the market economy.
It follows from simple observation of Eqs. (13) and (20) that the optimal subsidy
for renewable energy is zero. Notably, a carbon emissions tax is enough to induce
individuals to internalize the climate change problem and act accordingly.
There is, however, worldwide proliferation of subsidies for renewable energy.
Many countries seek the promotion of renewable energy as an alternative to a carbon
tax. What are the arguments in favor of subsidizing renewable energy?.
There are many. One reason is the existence of externalities in the production of
renewable energy. For example, a possible rationale for these subsidies is that the
economy needs to learn how to produce renewables, a relatively new technology.
There is a learning-by-doing process that requires initial government support. A
similar case comes from the presence of productivity spillovers that individuals do
not internalize. These are valid reasons to subsidize the industry.
In much the same way as the optimal carbon tax, the optimal subsidy rate should
equal the externality’s value. Thus, governments must be capable of measuring the
externality in renewable energy generation to be able to implement optimal support.
Otherwise, renewable subsidies will add undesirable distortions to the production
process.
The Risks of a Green Paradox
There is a related case for promoting renewable energy. This case states that, although
renewable energy is initially a more costly technology, the economy must invest in
it to displace dirty fossil energy.
The puzzle is that a counterproductive effect can arise. In particular, investment
in renewables may lead to an emission increase in the short term. The literature calls
this effect a Green Paradox (see Sinn 2008; van der Ploeg and Withagen 2012a, b;
Gerlagh 2011; Jensen et al. 2015; Belfiori 2021, among others). A Green Paradox
occurs when a climate policy implemented with good intentions leads to an increase
in carbon emissions rather than a reduction, at least in the short term.
Why does the Green Paradox happen? Oil companies extract oil so that the benefits of doing so are the same at any point in time. Suppose that the economy reaches
the point of full phase-out to renewable energy. In that case, the benefit of leaving oil reserves for the future is zero. There is no more business moving forward.
Consequently, there are incentives to extract more oil sooner than later. In fact, by
solving backward, there are incentives to accelerate extraction at every point before
the economy migrates to a hundred percent renewable energy.
There is a cake-eating analogy that often proves insightful. Suppose that you
bought a cake, planning to eat a piece each day of the week. However, you anticipate
M. E. Belfiori
Optimal Renewable Subsidies
The optimal renewable subsidy induces economic efficiency in the market economy.
It follows from simple observation of Eqs. (13) and (20) that the optimal subsidy
for renewable energy is zero. Notably, a carbon emissions tax is enough to induce
individuals to internalize the climate change problem and act accordingly.
There is, however, worldwide proliferation of subsidies for renewable energy.
Many countries seek the promotion of renewable energy as an alternative to a carbon
tax. What are the arguments in favor of subsidizing renewable energy?.
There are many. One reason is the existence of externalities in the production of
renewable energy. For example, a possible rationale for these subsidies is that the
economy needs to learn how to produce renewables, a relatively new technology.
There is a learning-by-doing process that requires initial government support. A
similar case comes from the presence of productivity spillovers that individuals do
not internalize. These are valid reasons to subsidize the industry.
In much the same way as the optimal carbon tax, the optimal subsidy rate should
equal the externality’s value. Thus, governments must be capable of measuring the
externality in renewable energy generation to be able to implement optimal support.
Otherwise, renewable subsidies will add undesirable distortions to the production
process.
The Risks of a Green Paradox
There is a related case for promoting renewable energy. This case states that, although
renewable energy is initially a more costly technology, the economy must invest in
it to displace dirty fossil energy.
The puzzle is that a counterproductive effect can arise. In particular, investment
in renewables may lead to an emission increase in the short term. The literature calls
this effect a Green Paradox (see Sinn 2008; van der Ploeg and Withagen 2012a, b;
Gerlagh 2011; Jensen et al. 2015; Belfiori 2021, among others). A Green Paradox
occurs when a climate policy implemented with good intentions leads to an increase
in carbon emissions rather than a reduction, at least in the short term.
Why does the Green Paradox happen? Oil companies extract oil so that the benefits of doing so are the same at any point in time. Suppose that the economy reaches
the point of full phase-out to renewable energy. In that case, the benefit of leaving oil reserves for the future is zero. There is no more business moving forward.
Consequently, there are incentives to extract more oil sooner than later. In fact, by
solving backward, there are incentives to accelerate extraction at every point before
the economy migrates to a hundred percent renewable energy.
There is a cake-eating analogy that often proves insightful. Suppose that you
bought a cake, planning to eat a piece each day of the week. However, you anticipate