Abstract:
This paper shows that tradable emissions permits and an emissions tax affect the firms’ technology choice differently under uncertainty. A tax en-courages the most flexible technology if and only if stochastic costs and the equilibrium permit price have suffciently strong positive covariance, compared with the variance in consumer demand for the good produced. Moreover, the firms’ technology choices are socially optimal under trad-able emissions permits, but not under an emissions tax. Hence, modeling endogenous technology choice provides an argument in favor of tradable emissions permits as compared with emissions taxes.