Carbon Taxes and Climate Commitment with Non-constant Time Preference

Terrence Iverson and Larry Karp

The Review of Economic Studies, 2021, vol. 88, issue 2, 764-799

Abstract: We study the Markov perfect equilibrium in a dynamic game where agents have non-constant time preference, decentralized households determine aggregate savings, and a planner chooses climate policy. The article is the first to solve this problem with general discounting and general functional forms. With time-inconsistent preferences, a commitment device that allows a planner to choose climate policy for multiple periods is potentially very valuable. Nevertheless, our quantitative results show that while a permanent commitment device would be very valuable, the ability to commit policy for “only” 100 years adds less than 2% to the value of climate policy without commitment. We solve a log-linear version of the model analytically, generating a formula for the optimal carbon tax that includes the formula in Golosov et al. (2014, Econometrica, 82, 41–88) as a special case. More importantly, we develop new algorithms to solve the general game numerically. Convex damages lead to strategic interactions across generations of planners that lower the optimal carbon tax by 45% relative to the scenario without strategic interactions.

Keywords: Hyperbolic discounting; Time consistency; Climate policy; D61; D62; E61; Q51; Q54 (search for similar items in EconPapers)
Date: 2021
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Citations: View citations in EconPapers (19)

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Working Paper: Carbon taxes and climate commitment with non-constant time preference (2017)
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