Welfare distortions of climate change policies

Abstract

The economic cost of reducing greenhouse gas (GHG) emission is an important policy consideration. As public awareness of climate change consequences increase, there is increased political support for greenhouse gas emission controls. However, there are disagreements over the intensity of controls as well as the implementation timeline. A major factor of consideration is the economic cost. Due to the complexity of the climate change issue, many people have chosen to focus on the carbon equivalent quota price as a proxy for the magnitude of cost. While the carbon price is a helpful guide, it provides an incomplete picture of all the distortions and their interactions. This thesis aims to break down the different components of welfare loss in computer general equilibrium (CGE) models, so as to further understand the issue. The MIT Emissions Prediction and Policy Analysis (EPPA) model, a large-scale computable general equilibrium (CGE) model, simulates trends in global economics and greenhouse gas emissions. Utilizing the EPPA model, I examined the distortions resulting from carbon taxation, domestic taxation, changes in terms of trade, international oil market effect, and international capital flow. This thesis focused on Japan and the European Union, showing that high carbon price does not always correlate with a proportional high percentage welfare loss.

(cont.) The distortion induced by interaction of non-carbon taxation dwarfs that of carbon taxation. As a result, some countries with a high carbon price may experience low national welfare loss relative to other countries with lower carbon price. Finally, I complete the thesis by examining the different policy implications for this detailed understanding of economic cost of climate change policies.