Distorted Time Preferences and Time-to-Build in the Transition to a Low-Carbon Energy Industry

Abstract

We study the welfare-theoretic consequences of diverging social and private time-preference rates and time-to-build for the transition to a low-carbon energy industry. We show that time-to-build, a prevalent characteristic of capital accumulation in the energy sector, amplifies the distortion induced by the split discount rates. Thus, these two characteristics create in a mutually reinforcing way less favorable circumstances for the introduction of new clean energy technologies as compared to the social optimum, even if welfare losses from emissions are internalized. We discuss resulting policy implications with particular emphasis on the energy sector.

Economic growth and the transition from non-renewable to renewable energy

“…As undertaken in Heinzel and Winkler (2011), and van der Ploeg and Withagen (2011; 2012), in our paper here, in contrast to the paper by Greiner et al (2010), we also let damages, arising from cumulative CO 2 emission, affect households’ welfare. We present a model version where consumption multiplicatively interacts with damages in the household's welfare function, but also a model variant with additive arguments in the welfare function.…”

“…Thus, the major issue is the question of how such a transition will work for a social optimum solution and whether a laissez-faire economy can 1 See e.g. Nordhaus (2008) 2 See for example Edenhofer et al (2011), Heinzel and Winkler (2011), and van der Ploeg and Withagen (2011).…”

“…We are doing this in a model with preferences, since the long-horizon welfare effects both from reducing the damages from CO 2 emissions as well as from technological improvements in energy production can be suitably modeled from this perspective. We also evaluate the effects resulting from differences in private and social rates of time preference as originally assumed in Arrow and Kurz (1970) and analyzed by Heinzel and Winkler (2011) in the context of an environmental model.…”

“…This suggests that one might want to constrain one-self to the lower initial R(0) = 0.5 which generates less cumulative externalities for. 13 Hence, if we have less initial deposits in nonrenewable energy (R(0) = 0.5 as compared to R(0) = 2.5 in figure 8), the existence of a higher capital stock, and thus the production of renewable energy, will phase in renewable energy faster and this could reduce the use of non-renewable energy. Note that we have not computed the welfare function in all of our cases using NMPC.…”

“… 2 See, for example, Edenhofer et al (2006), Heinzel and Winkler (2011) and van der Ploeg and Withagen (2011). …”