Title: The Economic and Financial Determinants of Carbon Prices
Abstract:The aim of this paper is to analyze the economic and financial determinants of carbon dioxide (CO2) prices from the short and long-term perspective, in particular within the EU-wide CO2 emissions trad...The aim of this paper is to analyze the economic and financial determinants of carbon dioxide (CO2) prices from the short and long-term perspective, in particular within the EU-wide CO2 emissions trading system (EU ETS). After reviewing present carbon markets, this paper investigates the several drivers of carbon prices from both n financial and an economic perspective. It then examines the main impacts of these drivers in the short and long term. Finally, by comparing the results of several academic and financial studies, this paper identifies the average carbon price and its standard deviation for different future time horizons. Carbon emissions from energy production and industrial processes are deeply entrenched in the economy. Thus, in order to mitigate the risk of catastrophic climate change, they need to be reduced to a fraction of today’s level. In this context, the challenge for climate policy is to deliver these emissions reductions effectively and at low cost. Carbon prices play an essential role in this process by creating incentives for all players in the economy to reduce carbon emissions. Carbon pricing can contribute to emissions reductions in two ways: (i) by shifting production towards low-carbon and more energy-efficient technologies; and (ii) by substituting high-carbon input factors, products, and services with less carbon-intensive alternatives. Governments can introduce a price for carbon either by using a cap-and-trade scheme or by imposing a tax on carbon emissions or other forms of regulation. In cap-and-trade schemes, governments set a cap on the total volume of emissions of a given pollutant and allocate the corresponding volume of allowances. Such allowances can then be freely traded. In particular, firms that would face high costs to reduce their emissions will buy allowances from firms with lower costs, thus reducing the total costs of emissions reductions. Hence, within a cap-and-trade scheme, carbon prices are set by market forces, whereas in the case of a carbon tax, the national government decides the price of carbon at the national level. This paper analyzes the functioning of carbon markets and focuses in particular on the determinants of carbon prices in a cap-and-trade scheme. Section 2 describes the origins of carbon markets and related policy decisions. Section 3 identifies the determinants of carbon prices, whereas section 4 uses existing climate economy models to provide an assessment of future short-term and long-term carbon prices. A concluding section summarizes our results.Read More
Publication Year: 2009
Publication Date: 2009-01-01
Language: en
Type: article
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Cited By Count: 24
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