Substitutability and the Cost of Climate Mitigation Policy

41 Pages Posted: 19 Mar 2014 Last revised: 20 Mar 2014

See all articles by Yingying Lu

Yingying Lu

Australian National University

David I. Stern

Australian National University (ANU) - Crawford School of Public Policy

Date Written: March 1, 2014

Abstract

We explore how and by how much the values of elasticities of substitution affect estimates of the cost of emissions reduction policies in computable general equilibrium (CGE) models. We use G-Cubed, an intertemporal CGE model, to carry out a sensitivity and factor decomposition analysis. Average abatement cost rises non-linearly as elasticities are reduced. Changes in the substitution elasticities between capital, labor, energy, and materials have a greater impact on mitigation costs than do inter-fuel elasticities of substitution. The former has more effect on business as usual emissions and the latter on average abatement costs. As elasticities are reduced, business as usual emissions and GDP growth also decrease so that there is not much variation in the total costs of reaching a given target across the parameter space. Our results confirm that the cost of climate mitigation policy is at most a few percent of global GDP.

Keywords: Elasticity of substitution, Mitigation policy, CGE models, G-Cubed, Sensitivity analysis, Decomposition analysis

JEL Classification: Q54, Q58, C68

Suggested Citation

Lu, Yingying and Stern, David I., Substitutability and the Cost of Climate Mitigation Policy (March 1, 2014). CAMA Working Paper No. 28/2014, Available at SSRN: https://ssrn.com/abstract=2410624 or http://dx.doi.org/10.2139/ssrn.2410624

Yingying Lu

Australian National University ( email )

Canberra, Australian Capital Territory 2601
Australia

David I. Stern (Contact Author)

Australian National University (ANU) - Crawford School of Public Policy ( email )

ANU College of Asia and the Pacific
J.G. Crawford Building, #132, Lennox Crossing
Canberra, Australian Capital Territory 0200
Australia

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