Simultaneous Supplies of Dirty and Green Fuels with Capacity Constraints: Is there a Green Paradox?

This paper studies some possible unintended consequences of alternative climate policies, using a resource extraction framework with heterogeneous deposits and energy sources, thus extending the scope of the theory of the green paradox. A key feature of the model is that there is a capacity constraint on a green backstop resource. This feature implies the simultaneous use of the expensive backstop resource and the cheaper exhaustible resources, over some interval of time. The model considers two dirty exhaustible resources, reflecting the heterogeneity of energy sources with respect to cost structure and carbon content. The policies under consideration are taxation of the dirty resources and the promotion of the green resource via subsidies or capacity-increasing measures. We complement our analytical investigation by a numerical analysis of the welfare effects of the different policies, using specific functional forms of social damage functions. The evolution of the stock of atmospheric carbon is modeled under alternative assumptions about the accumulation of anthropogenic carbon in the atmosphere. The key findings that emerge from this paper, compared to a baseline scenario without policy intervention, are that (1) expanding the capacity of the renewable energy sector, without additional policy measures, can decrease social welfare, (2) both the capacity expansion and the subsidy on green energy lead to increases in short-term emissions, and (3) none of the analyzed policy measures leads to a decrease in the aggregate duration of the extraction of the exhaustible resources.