On the Role of Technology Policies in Climate Mitigation Goals: Research Directions

1. On the Role of Technology Policies in Climate Mitigation Goals:Research Directions by Carolyn FischerResources for the Future Morzine, France, January 18, 2014

2. The Problem • To limit temperature increase to 2 degrees centigrade, we need rapid and deep reductions in fossil-fuel use • Requires significant changes in technologies and policies to get us there

3. Types of technological change • Changing the mix of what existing technologies we use over time • Changing the cost or productivity of clean technologies over time • Developing new breakthrough or backstop technologies

4. Economic Efficiency • What policy tools can achieve these goals in a decentralized manner? • Carbon price! • Is carbon pricing enough? • Can it induce the “right amount” of technical change? • Can it be made to fully reflect the social cost of carbon?

5. Focus on technical feasibility “Stabilization Wedges: Solving the Climate Problem for the next 50 Years with Current Technologies,” S. Pacala and R. Socolow, Science, August 13, 2004. Source: Carbon Mitigation Initiative, Princeton University

6. June, 2013

7. EU “20/20/20 by 2020” Goals Reduce greenhousegas levels by 20% Increase share of renewables to 20% Reduce energyconsumption by 20% 100% Current trend to 2020 Current trend to 2020 -20% -10% Current trend to 2020 20% Source: European Commissions DG Energy 22 June 2011

9. Are policymakers ignoring our advice?... • In an idealized world, carbon pricing is necessary and sufficient • Indeed additional technology policies distort markets and raise costs

10. Cost of abatement with renewables Marcantonini and Ellerman (2013)

11. …Or are we ignoring critical facts? • Do these additional costs bring value that we’re not capturing? • What market and policy failures do we need to understand? • Are there political constraints or multiple objectives to consider?

12. Market failures and other concerns relevant for climate policy • Emissions externality underpricing • Knowledge spillovers – inability of innovators to appropriate all the gains • Market or regulatory barriers to adoption • Network effects, lock-in, path dependence • Imperfect competition • International emissions leakage • Behavioral gaps: energy efficiency valuation, uncertainty, discounting • Option values and uncertainty

13. Policy constraints and multiple objectives • Distributional concerns • Consumer, industry costs • Regional development • Jobs • Exports

14. Does emissions underpricing justify more public support for innovation? • Knowledge spillovers mean innovation is undervalued • If emissions are underpriced, then innovation in clean technologies is further undervalued • But lower emissions pricing also means less incentive to adopt clean technologies

15. Value of public support for clean R&D 1 0.8 0.6 Social Premium as Share of Benefits Share of Marginal Social Costs Priced 0.4 0.2 1 0.2 0.4 0.6 0.8 0 Share of Spillovers in Gains from R&D Fischer, C. 2008. Emissions Pricing, Spillovers, and Public Investment in Environmentally Friendly Technologies, Energy Economics. 30 (2): 487–502.

16. Cost of using technology policy instead of emissions pricing • Optimal policy includes addressing R&D and LBD spillovers, with emissions pricing • Emissions pricing best single policy Fischer, C. and R.G. Newell. 2008. Environmental and Technology Policies for Climate Mitigation, Journal of Environmental Economics and Management. 55 (2): 142–162.

17. Partial equilibrium model of electricity supply and demand • Representative sectors • Mature technologies: coal, gas, oil, nuclear, hydro • Innovating technologies: wind (+biomass, etc.), solar • Two stages • Minimum to capture endogenous technological change and energy efficiency • Notionally 2015-2020 and 2020-2035 • Incorporate EE market failures • Update to AEO 2013

18. Relative policy costs with EE undervaluation

19. Optimal subsidies

20. EU Calibration Exercise • Baseline with EU ETS; reference policy with 20/20/20 • Calculate prices for each generator type • Net of carbon tax in the baseline • Net of carbon tax, REC subsidy, and implicit REC tax on nonrenewable producers in the reference • Taking reference RES-E market share as the target • Calculate supply curve slopes from net price changes / quantity changes • Solve for EE subsidies to replicate the reference electricity price • 7% in stage 1 and 8% in stage 2

21. EU policy prices

22. Welfare Effects(50% Spillovers, no EE undervaluation)

23. Distributional Effects (Relative to No Policy)

24. Discussion • In these modeling exercises, nearly all welfare gains from optimal tech policy for renewables comes from internalizing the R&D externality • Internalizing EE market failures even more important • Explains little extra value for adoption subsidies • Additional explanations for technology “pull” policies? • Unmodeled barriers to adoption • Imperfect competition, scale economies for new technologies • Political constraints on emissions pricing • Industrial competitiveness concerns and emissions leakage

25. Carbon leakage, technology policy, and the Green Paradox • Fossil resource owners respond to expected reductions in demand by lowering scarcity rents • In theory can accelerate emissions and increase the PDV of damages (“green paradox”) • Sinn (2008) • Technology-push policies that bring down future costs likely to have strongest effects • Technology-pull policies can weaken the GP by also reducing current demand • e.g. Gerlagh (2011); Van der Ploeg and Withagen (2010);

26. Technology and spatial carbon leakage • Reduction in energy demand in regulated region leads to more energy consumption in unregulated regions. • Estimates range from 5-30% • But if lower-cost clean technology also gets adopted in non-regulating countries can mitigate spatial leakage… • Bosetti and De Cian (2013) …and intertemporal leakage • In theory, negative leakage possible • Fischer and Salant (2013)

27. Fischer and Salant (2013) • Exogenous cost-reducing technical change (z) in the backstop means it will eventually be cheaper than each of the pools • Else 100% leakage is assured if any consumers are untaxed(Hoel 2013) • z can be accelerated by government policy • of world demand is regulated (R); complementary share is unregulated (U) with an emissions tax • Tax rate is initially and rises at the rate of interest • could also be price of bankable emissions permits • Depletion effects captured by assuming differing constant MC of extraction in different pools • Pools have different emissions factors • weakly increasing with extraction costs

28. Major Categories of Oil Source: IEA (2010)

29. 5-Pool Calibrated Model:Reserves and Cost Assumptions

30. Evolving Coalition Size

31. Eliminating Demand for Oil Shale • Modest policies can do this • $10 carbon tax in a coalition of OECD countries • Coalition skips over oil sands too • Or with no tax, increase tech change from 5.1% to 5.7% cost improvement per decade

32. Eliminating Demand for Heavy Oil • OECD coalition can’t do this (or anything more ambitious) without more tech change • $20 carbon tax + 10.3% cost improvement per decade • Coalition skips over all unconventional oil • $40 carbon tax + 9.7% cost improvement per decade • Or with no tax, 11.9% cost improvement per decade • Clean energy innovation is a substitute for coalition size and tax

33. Green Paradox Proxy(No Policy versus Scenarios Eliminating Heavy Oil)

34. Directed Technical Change • Different flavor from traditional induced technical change literature • Acemoglu, Aghion, Bursztyn, and Hémous (2012, AER) • Explores how transitory environmental policy can engender permanent changes in the sustainability of macroeconomic growth • Innovation “builds on the shoulders of giants” • Occurs in both dirty and clean • Creates type of lock-in • Directed research subsidies can have a much stronger effect than emissions taxes on technical change

35. Summary from theory and numerical analysis • Knowledge spillovers can justify some subsidies for clean energy, in addition to carbon pricing • But may be very modest • Diminished by uninternalized behavioral failures and emissions underpricing • International spillovers enhance value to clean innovation • Green Paradox may not be a bigger concern for clean tech policies • Lock-in may justify additional clean innovation support • Additional value to backstop technologies • Can we improve our estimates of these additional values?

36. Empirical questions: induced innovation • How do policies induce (or inhibit) innovation? • Surveys by Popp (2010), Popp Newell and Jaffe (2010), Johnstone and Hasˇcˇic (2013), and Vollebergh (2007) • Patents or R&D spending as proxies for innovation; expenditures as proxies for regulatory stringency • Innovation is induced by energy prices / regulatory costs • Effects on energy demand likely modest relative to factor substitution and other drivers • Popp (2001), Sue Wing (2008), Linn (2008) • Market mechanisms may not induce more innovation • Lower costs through flexibility mean less innovation needed • Popp (2003) finds innovation no higher after CAAA, but shift from cost reductions to removal efficiency • Johnstone et al. (2008) find that flexible mechanisms lead to higher quality innovations

37. Empirical questions: innovation and abatement costs • Patent studies validate theory of ITC, but little quantitative guidance • How does innovation affect costs? • Lower costs • Lower or higher marginal costs • Baker and others • Lower uncertainty • What are the relative contributions of R&D or LBD? – Parsing experience curves • So¨derholmand Klaassen (2007) find that R&D contributes more; sensitive to specifications

38. Empirical questions: spillovers • Spillover estimates (30% and 50%) from broader economic studies from 1980s-90s • Mansfield (1977, 1996), Pakes (1985), Jaffe (1986), Hall (1996), and Jones and Williams (1998). • Do climate-friendly technologies have bigger spillovers than other technologies? • Popp and Newell (2012), Dechezleprêtre, Martin and Mohnen (2013) find some evidence of this using patent citations • Do some climate-friendly technologies have bigger spillovers than others? (E.g., solar vs. wind) • Is innovation from LBD more or less appropriable than R&D?

39. Empirical questions: international linkages • Do foreign policies spur domestic innovation? • Bosetti and Verdolini (2013) role of IPR • Dechezleprêtre and Glachant (2013): domestic renewable energy policies have 12x effect on innovation of foreign demand pull policies. • To what extent does innovation in clean technologies spill over internationally? • Lanjouwand Mody (1996): most air pollution patents in developing nations granted to developed country inventors; water pollution patents more local; although US had first strict vehicle emissions standards, most patents from abroad • Verdoliniand Galeoti (2011); Dechezleprêtre, Glachant and Ménière (2013) find significant evidence • What is the value of international clean tech spillovers?

40. Empirical questions: path dependence • Do we observe the kind of path dependence of R&D productivity in energy technologies? • Aghion et. al. (2012) • higher fuel prices are correlated with more innovation in clean auto technologies. • firms are more likely to innovate in clean technologies when they have previously been exposed to clean technologies. • Popp (2002, 2006c) finds evidence of diminishing returns to research, depreciation of knowledge

41. Empirical questions: carbon leakage and industrial policy • How do global fossil fuel prices respond to anticipated demand changes? • Lemoine (2013) • How effective are technology policies at achieving other objectives? (e.g., jobs)

43. Maybe they do know more…

44. Thanks! • Funding from U.S. EPA, the Mistra Foundation ENTWINED and INDIGO programs, and the Norwegian Research Council is gratefully acknowledged.