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Time-Consistent Carbon Pricing

Discussion Papers 1710, 18 S.

Olga Chiappinelli, Karsten Neuhoff


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In this paper we show that carbon pricing is subject to time-inconsistency and we investigate solutions to improve on the problem and restore the incentive for the private sector to invest in low-carbon innovation. We show that a superior price- investment equilibrium can be sustained in the long-term, if the policy-maker is enough forward looking and allowed to build reputation. In the short-term, time- inconsistency can be alleviated by complementing carbon pricing with project-based carbon price guarantees.

Karsten Neuhoff

Head of Department in the Climate Policy Department

JEL-Classification: C73;L51;O31;Q58
Keywords: Carbon pricing, Time-inconsistency, Low-carbon innovation, Environmental regulation, Repeated games, Carbon contracts
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