Carbon Offsetting with Eco-Conscious Consumers

Abstract

In this paper, we model a firm that can reduce its carbon footprint in the presence of a segment of eco-conscious consumers, who consider the product's carbon footprint when making purchasing decisions. The firm can reduce its controllable emissions, at increased fixed and variable costs. The firm can also buy carbon offsets, at the price set by a non-governmental organization (NGO), for both its controllable and uncontrollable emissions in the supply chain. We find that the firm should not use these two emission reduction methods as simple substitutes. In particular, as the offset price decreases, the firm may spend more efforts reducing its controllable emissions. Also, a firm's decision to buy carbon offsets depends on the correlation between consumers' preferences for the product function and for its environmental attributes, and this has implications for NGOs selling offsets. Specifically, while NGOs should price offsets as low as possible in most cases, we find some instances where a premium pricing strategy may be more effective in promoting lower carbon footprint products, especially when eco-conscious consumers have a significantly higher valuation for the product than those who do not care about the environment, on average.

Keywords: carbon footprint, carbon offsets, eco-conscious consumers, game theory