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Optimal Pricing for Carbon Dioxide Removal Under Inter-Regional Leakage

Authors

Franks,  Max
External Organizations;

Kalkuhl,  Matthias

Lessmann,  Kai

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Citation

Franks, M., Kalkuhl, M., Lessmann, K. (2022): Optimal Pricing for Carbon Dioxide Removal Under Inter-Regional Leakage, (CEPA Discussion Papers ; 43), Potsdam : Center for Economic Policy Analysis.


Cite as: https://publications.pik-potsdam.de/pubman/item/item_31415
Abstract
Carbon dioxide removal (CDR) moves atmospheric carbon to geological or land-based sinks. In a first-best setting, the optimal use of CDR is achieved by a removal subsidy that equals the optimal carbon tax and marginal damages. We derive second-best subsidies for CDR when no global carbon price exists but a national government implements a unilateral climate policy. We find that the optimal carbon tax differs from an optimal CDR subsidy because of carbon leakage, terms-of-trade and fossil resource rent dynamics. First, the optimal removal subsidy tends to be larger than the carbon tax because of lower supply-side leakage on fossil resource markets. Second, terms-of-trade effects exacerbate this wedge for net resource exporters, implying even larger removal subsidies. Third, the optimal removal subsidy may fall below the carbon tax for resource-poor countries when marginal environmental damages are small.