Cap and trade schemes often use a policy of adjustable allowance supply with the intention to stabilize the market for allowances. We investigate whether these policies deliver. Our focus is on the sensitivity of allowance prices to the interest rate. We restrict attention to policies that rely on either the allowance price (price measures) or the surplus of unused allowances (quantity measures) to adjust supply in a dynamic cap and trade market. These policies are modelled after the existing policy landscape. Compared to a situation with fixed supply, we find that price measures stabilize allowance prices. Quantity measures do the opposite. Though phrased in the context of changing interest rates, our results warn more generally against the belief that quantity measures are a suitable instrument to promote a stable cap and trade market.
R.J.R.K. Heijmans
Revisions requested at Journal of Environmental Economics and Management,
2022
We study dynamic cap and trade schemes in which a policy of adjustable allowance supply determines the cap on emissions. Focusing on two common supply policies, price and quantity mechanisms, we investigate how the duration of a cap and trade scheme affects equilibrium emissions under its cap. More precisely, we quantify the reduction in equilibrium emissions realized by shortening the duration of the scheme. We present four main results. First, the reduction in emissions is positive and bounded from below under a price mechanism. Second, the reduction in emissions is bounded from above under a quantity mechanism. Third, these upper and lower bounds coincide when the price and quantity mechanism are similar. Fourth, we identify sufficient conditions for which the reduction in emissions is strictly negative under a quantity mechanism. Our results show that price and quantity mechanisms are nowhere near equivalent.
R.J.R.K. Heijmans
Submitted,
2022
We study pandemic policy in a global game. Independent regions face the outbreak of a disease and can exert effort to control it. If the disease is infectious, it will be controlled only if sufficiently many regions exert effort. Regions thus face a coordination game which, in the well-studied case of perfect information, has multiple Nash equilibria. We show that even a vanishing amount of uncertainty about fundamentals of the game forces selection of a unique equilibrium. In well-identified cases, a pandemic occurs even though it is inefficient and could be avoided. Harmful diseases are less likely to become an pandemic while diseases which require greater cooperation have a larger chance to go uncontrolled. A higher cost of effort increases the probability of a pandemic and regions whose actions exhibit stronger spillovers have a greater influence on the limiting equilibrium. Given the possibility of an inefficient but rational pandemic, we also study a mechanism to facilitate coordination on disease control. In particular, we introduce the concept of P-delegation, a kind of conditional delegation which binds delegating regions to exert effort toward disease control if and only if at least a weighted proportion P of all regions has delegated. We show that, for judiciously chosen P, P-delegation can help avoid pandemics. Our results thus suggest a way forward for the international cooperation on disease control.
2022
Global games are incomplete information games where players receive private noisy signals about the true game played. In a sequential global game, the set of players is partitioned into subsets. Players within a subset (of the partition) play simultaneously but no two subsets move at the same time. The resulting sequence of stages introduces intricate dynamics not encountered in static global games. We show that a sequential global game with strategic complementarities and binary actions has at least one equilibrium in monotone strategies. When signals are sufficiently precise, the sequential global game has a unique equilibrium satisfying iterated dominance, forward induction, and backward induction, even if the complete information game (given the partition of the player set) has multiple equilibria. Several applications are discussed.
R.J.R.K. Heijmans, E. van Damme
2022
We develop a dynamic regulation game for a stock externality under asymmetric information and future market uncertainty. Within this framework, regulation is characterized as the implementation of a welfare-maximization program conditional on informational constraints. We identify the most general executable such programs and find these yield simple and intuitive policy rules. We apply our theory to carbon dioxide emissions trading schemes and find substantial welfare gains are possible, compared to current practices.
Submitted,
2020
Recent years have seen a rapid increase in the number of cap-and-trade schemes to mitigate greenhouse gas emissions. With many independently operating systems, policy discussions have turned to the topic of linking. This paper offers a theory of optimal linking. We show that an efficient linkage adjusts the joint cap in response to inter-scheme trades of allowances. Compared to standard linking, our proposal has two major advantages. First, it increases global welfare by efficiently adjusting the cap in response to private information implicitly contained in inter-scheme trades. Second, post-linking price volatility is lower with an endogenous cap. The latter advantage may alleviate existing political barriers to linking such as imported price volatility. A key concept in our analysis is asymmetric uncertainty. Interestingly, while asymmetric information generally decreases welfare, asymmetric uncertainty compensates for part (or, in extreme cases, all) of that welfare loss.
2020
