Policy constraints and decarbonization
In this paper, Viral V. Acharya, Robert F. Engle III, and Olivier Wang use a theoretical model to analyze how government policies and corporate commitments interact in the context of decarbonization. It considers two externalities: environmental damages from carbon emissions and technological spillovers from green innovation. The model explores scenarios where government policies are constrained, focusing on the role of large firms and common ownership in driving green innovation and reducing transition costs. Some of their findings include:
- Role of large firms and common ownership: The authors find that large firms and institutional investors can act as catalysts for decarbonization by making commitments to reduce emissions. These commitments can spur green innovation and technology adoption, even when government policies are constrained. Common ownership, where large institutional investors hold stakes in multiple firms, can enhance these efforts by internalizing technological spillovers across their portfolios.
- Interaction with government policies: The paper shows that firm commitments can improve the credibility of government climate policies. By reducing the need for high future carbon taxes, firm commitments make government promises more believable, especially when green innovation subsidies are limited.
- Empirical Evidence: The authors provide evidence that large firms and those owned by institutional investors with Net Zero commitments are more likely to invest in decarbonization efforts. This supports the theoretical model’s predictions about the role of firm size and common ownership in driving green transitions.
- Policy Implications: Acharya et al. suggest that in environments where government policies face constraints, private sector commitments can be crucial for achieving efficient decarbonization. They highlight the importance of both carbon pricing and innovation subsidies but note that firm commitments can partially substitute for missing policy instruments.
Strategic Commitments to Decarbonize: The Role of Large Firms, Common Ownership, and Governments
Authors: Viral V. Acharya, Robert F. Engle III, Olivier Wang
From: New York University
Policy uncertainty and decarbonization
Maximilian Fuchs, Johannes Stroebel, and Julian Terstegge, in this paper, explore the impact of carbon price uncertainty on firms’ decisions to decarbonize their operations.
Methodology:
- Measuring carbon price uncertainty: The authors develop two high-frequency measures of carbon price uncertainty: the Carbon VIX and Carbon Implied Volatility (CIV). The Carbon VIX is constructed using option prices on EU emission allowances (EUAs), similar to the CBOE VIX for stock market volatility. CIV measures expected EUA price volatility via at-the-money options.
- Identifying carbon solution providers: The authors use a large survey dataset from the Carbon Disclosure Project (CDP) to identify common decarbonization activities. They then use AI tools to match these activities with companies that provide relevant goods and services, resulting in a sample of 201 “carbon solution providers.”
- Analyzing decarbonization investments: The authors examine the effect of carbon price uncertainty on both realized decarbonization investments and expected investments through the stock returns of carbon solution providers.
Findings
- Carbon price uncertainty: The study shows that carbon price uncertainty is high and varies significantly over time, often increasing around major climate policy events. The average annualized expected volatility of carbon prices was about 54% between 2013 and 2022.
- Impact on decarbonization investments: The analysis reveals that higher carbon price uncertainty leads to lower decarbonization investments. For firms exposed to the EU ETS, a one standard deviation increase in the Carbon VIX is associated with a decrease in the investment rate.
- Stock returns of carbon solution providers: The stock returns of carbon solution providers respond positively to increases in carbon prices but negatively to increases in carbon price uncertainty. This suggests that uncertainty discourages firms from investing in decarbonization, aligning with predictions from real options theory.
Carbon VIX: Carbon Price Uncertainty and Decarbonization Investments
Authors: Maximilian Fuchs, Johannes Stroebel, Julian Terstegge
From: Copenhagen Business School, New York University
