Is Price Commitment a Better Solution to Control Carbon Emissions and Promote Technology Investment?

Posted: 12 Apr 2021 Last revised: 15 Jun 2021

See all articles by Xiaoshuai Fan

Xiaoshuai Fan

Southern University of Science and Technology (SUSTech) - Department of Information System and Management Engineering

Kanglin Chen

Hong Kong University of Science & Technology (HKUST) - Dept. of Industrial Engineering and Decision Analytics

Ying-Ju Chen

Hong Kong University of Science & Technology (HKUST) - Department of Information Systems, Business Statistics and Operations Management; Hong Kong University of Science & Technology (HKUST) - Dept. of Industrial Engineering and Decision Analytics

Date Written: April 1, 2021

Abstract

Given the difficulty to reach a global quantity commitment to control the carbon emissions, a globally uniform price commitment is proposed to tackle the current environmental issues. In this paper, we take an operations perspective to understand the impact of both the cap-and-trade policy (quantity commitment) and the carbon tax policy (price commitment) on a firm's technology investment and production decisions.

We show that under the cap-and-trade policy, with the uncertainty of the future emission price, the firm could flexibly adjust its production quantity to enhance its profit. Hence, the firm has low incentives to invest in clean technology. However, as the enhancement of the correlation relationship between the sales market and the permit trading market, the profit driven from the production flexibility is weakened so that the firm has to increase its technology investment to hedge against the future risk of a high emission price. Making a comparison between the cap-and-trade \emph{and} the carbon tax policies, we find that when the correlation is moderate, the carbon tax policy generates a multi-win situation (i.e., higher expected profit and consumer surplus, more technology investment, and less carbon emissions). To check the robustness of our results, we investigate the cases with competition, with a marginal production cost which depends on the technology level, and with restricted production flexibility. Overall, this study explores the interactions between the carbon policy and the firm's operational decisions. Through examining the influence of carbon policy on four measurements, our analysis provides meaningful insights for carbon policy design.

Keywords: Cap-and-Trade Policy, Carbon Tax Policy, Correlated Uncertainty, Pollution Abatement, Sustainable Operations

Suggested Citation

Fan, Xiaoshuai and Chen, Kanglin and Chen, Ying-Ju, Is Price Commitment a Better Solution to Control Carbon Emissions and Promote Technology Investment? (April 1, 2021). HKUST Business School Research Paper No. 2021-022 (also appears in Recent Research on how Businesses Impact the Society eJournal), Available at SSRN: https://ssrn.com/abstract=3817235 or http://dx.doi.org/10.2139/ssrn.3817235

Xiaoshuai Fan (Contact Author)

Southern University of Science and Technology (SUSTech) - Department of Information System and Management Engineering ( email )

Guangdong, China
China
+86-19879836523 (Phone)

Kanglin Chen

Hong Kong University of Science & Technology (HKUST) - Dept. of Industrial Engineering and Decision Analytics ( email )

Hong Kong

Ying-Ju Chen

Hong Kong University of Science & Technology (HKUST) - Department of Information Systems, Business Statistics and Operations Management ( email )

Clear Water Bay
Kowloon
Hong Kong

Hong Kong University of Science & Technology (HKUST) - Dept. of Industrial Engineering and Decision Analytics ( email )

Hong Kong

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