Too little oil, too much coal: optimal carbon tax and when to phase in oil, coal and renewables

Too little oil, too much coal: optimal carbon tax and when to phase in oil, coal and renewables / F. van der Ploeg, and C. Withagen. CESifo Working Paper No. 3526, Jul 2011, 37 p.

Our main message is that it is optimal to use less coal and more oil once one takes account ofcoal being a backstop which emits much more CO2 than oil. The way of achieving this is tohave a steeply rising carbon tax during the initial oil-only phase, a less-steeply rising carbontax during the intermediate phase where oil and coal are used alongside each other and thefollowing coal-only phase, and a flat carbon tax during the final renewables-only phase. The“laissez-faire” outcome uses coal forever or starts with oil until it is no longer cost-effectiveto do so and then switches to coal. We also analyze the effects on the optimal transition timesand carbon tax of a carbon-free, albeit expensive backstop (solar or wind energy). Subsidizingrenewables to just below the cost of coal does not affect the oil-only phase. The gain in greenwelfare dominates the welfare cost of the subsidy if the subsidy gap is small and the globalwarming challenge is acute. Without a carbon tax a prohibitive coal tax leads to less oil left insitu and substantially delays introduction of renewables, but curbs global warmingsubstantially as coal is never used. Finally, we characterize under general conditions what theoptimal sequencing oil and coal looks like. (© the authors)

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