Banking Permits: Economic Efficiency and Distributional Effects

32 Pages Posted: 5 Jun 2008  

Valentina Bosetti

Fondazione Eni Enrico Mattei (FEEM); Bocconi University; CMCC - Euro Mediterranean Centre for Climate Change

Carlo Carraro

Fondazione Eni Enrico Mattei (FEEM); Ca' Foscari University of Venice; CMCC - Euro Mediterranean Centre for Climate Change (Climate Policy Division); IPCC; Centre for Economic Policy Research (CEPR); CESifo (Center for Economic Studies and Ifo Institute); Centre for European Policy Studies, Brussels; Green Growth Knowledge Platform; International Center for Climate Governance

Emanuele Massetti

Fondazione Eni Enrico Mattei (FEEM) & Euro-Mediterranean Center for Climate Change; Georgia Institute of Technology; CESifo (Center for Economic Studies and Ifo Institute)

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Date Written: January 2008

Abstract

Most analyses of the Kyoto flexibility mechanisms focus on the cost effectiveness of where flexibility (e.g. by showing that mitigation costs are lower in a global permit market than in regional markets or in permit markets confined to Annex 1 countries). Less attention has been devoted to when flexibility, i.e. to the benefits of allowing emission permit traders to bank their permits for future use. In the model presented in this paper, banking of carbon allowances in a global permit market is fully endogenised, i.e. agents may decide to bank permits by taking into account their present and future needs and the present and future decisions of all the other agents. It is therefore possible to identify under what conditions traders find it optimal to bank permits, when banking is socially optimal, and what are the implications for present and future permit prices. We can also explain why the equilibrium rate of growth of permit prices is likely to be larger than the equilibrium interest rate. Most importantly, this paper analyses the efficiency and distributional consequences of allowing markets to optimally allocate emission permits across regions and over time. The welfare and distributional effects of an optimal intertemporal emission trading scheme are assessed for different initial allocation rules. Finally, the impact of banking on carbon emissions, technological progress, and optimal investment decisions is quantified and the incentives that banking provides to accelerate technological innovation and diffusion are also discussed. Among the many results, we show that not only does banking reduce abatement costs, but it also increases the amount of GHG emissions abated in the short-term. It should therefore belong to all emission trading schemes under construction.

Keywords: Banking, Climate Policy, Emission Trading, Flexibility

JEL Classification: C72, H23, Q25, Q28

Suggested Citation

Bosetti, Valentina and Carraro, Carlo and Massetti, Emanuele, Banking Permits: Economic Efficiency and Distributional Effects (January 2008). CEPR Discussion Paper No. 6652. Available at SSRN: https://ssrn.com/abstract=1140581

Valentina Bosetti (Contact Author)

Fondazione Eni Enrico Mattei (FEEM) ( email )

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Bocconi University ( email )

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CMCC - Euro Mediterranean Centre for Climate Change

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Carlo Carraro

Fondazione Eni Enrico Mattei (FEEM) ( email )

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International Center for Climate Governance ( email )

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Emanuele Massetti

Fondazione Eni Enrico Mattei (FEEM) & Euro-Mediterranean Center for Climate Change

Corso Magenta 63
20123 Milan
Italy

Georgia Institute of Technology ( email )

685 Cherry St.
Atlanta, GA 30332-0345
United States

CESifo (Center for Economic Studies and Ifo Institute)

Poschinger Str. 5
Munich, DE-81679
Germany

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