Optimal Environmental Policy with Network Effects: Is Lock-in in Dirty Technologies Possible?

Mads Greaker and Kristoffer Midttømme

No 15/2013, Memorandum from Oslo University, Department of Economics

Abstract: Network externalities could be present for many low or zero emission technologies. One obvious example is alternative fuel cars, whose use value depends on the network of service stations. The literature has only briefy looked at environmentally benefcial technologies. Yet, the general literature on network effects is mixed on whether governments need to intervene in order to correct for network externalities. In this paper we study implications of network effects on environmental policy in a discrete time dynamic game. Firms sell a durable good. One type of durable is causing pollution when being used, while the other type is "clean". Consumers' utility increase in the number of other users of the same type of durable, which gives rise to the network effect. We find that the optimal tax depends on the size of the clean network. If starting from a situation in which the dirty network dominates, the optimal tax may exceed the marginal environmental damage, thereby charging consumers for more than just their own emissions. Applying a Pigovian tax may, on the contrary, fail to introduce a socially beneficial clean network.

Keywords: Network e ects; lock-in; enviromnetal taxes (search for similar items in EconPapers)
JEL-codes: H23 Q55 Q58 (search for similar items in EconPapers)
Pages: 29 pages
Date: 2013-06-15
New Economics Papers: this item is included in nep-ene, nep-env, nep-net, nep-reg, nep-res and nep-tre
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