Intergenerational inequality aversion, growth and the role of damages: Occam's rule for hte global carbon tax

May 2014 | 150

Authors: Rick Van der Ploeg Armon Rezai

We derive a simple rule for a nearly optimal carbon tax that can be implemented and tested in a decentralized market economy. Our simple rule depends on the effect of the pure rate of time preference, growth and intergenerational inequality aversion and basic parameters of the carbon cycle, but also on any adverse effects of global warming on economic growth and mean reversion in climate damages. The performance of the simple rule is excellent and yields only tiny welfare losses compared with the true welfare optimum under a wide range of perturbations including some extreme runs designed to severely road-test the rule. Our IAM allows for scarce fossil fuel and endogenous energy transitions and generates cumulative carbon emissions and stranded assets which are also well predicted by our rule.

JEL Codes: H21, Q51, Q54

Keywords: simple rule, welfare losses, optimal carbon tax, intergenerational inequality aversion, growth, alternative climate damage specifications, stranded assets, transition times

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