Uncertain long-run emissions targets,CO2 price and global energy transition: A general equilibrium approach

The persistent uncertainty about mid-century CO₂ emissions targets is likely to affect not only the technological choices that energy-producing firms will make in the future but also their current investment decisions. We illustrate this effect on CO₂ price and global energy transition within a MERGE-type general-equilibrium model framework, by considering simple stochastic CO₂ policy scenarios. In these scenarios, economic agents know that credible long-run CO₂ emissions targets will be set in 2020, with two possible outcomes: either a “hard cap” or a “soft cap”. Each scenario is characterized by the relative probabilities of both possible caps. We derive consistent stochastic trajectories—with two branches after 2020—for prices and quantities of energy commodities and CO₂ emissions permits. The impact of uncertain long-run CO₂ emissions targets on prices and technological trajectories is discussed. In addition, a simple marginal approach allows us to analyze the Hotelling rule with risk premia observed for certain scenarios.