Working Group 4: Economics and Climate Change

The Dahrendorf Economic Working Group aims at identifying a feasible climate policy mix to achieve long-term greenhouse gas reduction targets in Europe. The project will focus on price-based (carbon taxes, subsidies, feed-in-tariffs) and quantity-based (renewable standards, emission permits) instruments and their interaction with additional policy instruments.

Guiding research questions

Institutional Organizations and the Carbon Market
Tradable permits schemes have the potential to achieve a given pollution constraint in a cost–effective manner. Whether this potential is realized depends, among other things, on the design of the market and the extent to which individual firms can exert a significant influence on it.

 

First, we will conduct research on compliance behavior under hybrid schemes.  Hybrid schemes (ie. a combination of tax regime and cap-and-trade scheme) should prevent the permit price from moving outside a target price region.  We will provide an analytical assessment of such an (automatic) mechanism and attempt to capture the compliance rationale invoked in the literature. The model will be used to study the normative implications of alternative policy (hybrid) levels.

 

Second, we will consider the design of a centralized mechanism (a central carbon bank) and investigate advantages and disadvantages of this organization: could a central carbon bank address the present carbon market failures? What are the existing and potential institutional and political barriers?   

 

Finally, we will examine compliance (or non-compliance) strategies when markets are not perfectly competitive. This research will answer the question: how to desing the enforcement structure in order to minimize welfare loss due to market power.


2030 Targets
Renewable energy policy

Renewable energy targets for 2030 are likely to be the top priority for EU decision makers over the coming 18 months. Research that helps policy makers in their task of designing 2030 targets will be timely and well received by a range of stakeholders. We propose to undertake research that asks what 2030 targets should look like. The research will comprise three parts.

 

First, we will conduct a series of interviews with regulators (the European Commission, e.g. DG Climate Action and DG Energy), government (the German and UK governments), key industry players (e.g. RWE, EDF and GE Energy), and leading academics in the field. The purpose will be to elicit their views on 2030 targets.

 

Second, these views will be assessed and synthesized and more rigorous academic analysis undertaken to identify a number of economically sensible and politically practical recommendations for the setting of 2030 targets.

 

Third, PIK Potsdam will be approached to run their new dynamic optimisation model that will, given assumptions around emissions targets, learning rates, etc. calculate an optimal renewable target (least cost).

 

This research has the potential for high impact across Europe.

 

Overlapping energy and climate mitigation policies: complementary or supplementary instruments?
Environmental and energy targets are a priority on the policy agenda of the European Union, the U.S. and numerous other countries. Complexity can arise where there are multiple policy objectives behind one policy. Originally conceived as a mechanism for cost-effective mitigation of GHG emissions, some countries are seeking to use transferable permit markets (ETS) as a tool to deliver a broader range of sustainable development or green-growth objectives (particularly around energy sector transformation) as well. While there is certainly a strong alignment between the two sets of goals, there can be some tension (e.g. in terms of what is a desirable domestic permit price) which needs to be factored into detailed scheme design. Other policies and measures may be more appropriate to complement the permit price signal. The interplay between ETS and complementary policies is an emerging issue that is not yet well understood and should be given careful consideration.


This project investigates new research directions to refine and complement the EU-ETS regulation. Refinements will include the study of the optimal number of permits allocated to regulated entities, the level of the fixed, per-unit penalty, and banking and borrowing provisions. Co-existent policies, such as renewable targets and renewable subsidies, will be investigated. A socially desirable (and optimal) combination of price- and quantity-instruments will be evaluated. Several realistic market and social constraints, such as meeting electricity demand and investment capital requirements, will be considered.


Our research project is well connected to the work of the other working groups. In the presence of conflict of interests between old and younger generations (WG 3), or between different European Member States (WG 2), or between different continents (WG 5), the design of the desirable policy combination is a difficult task. A good policy needs to weigh the different trade-offs and offer an integrated solution that accounts for the technological and institutional constraints (WG 1) - this is the objective of this project. We start by identifying a decision model where simple economic variables like the price of energy and the energy demand affect the relevant policy level: the number of issued allowances. A solution to this problem is sought by using stochastic programming and multivariate Markov chain simulations.

  Price Barriers and Optimal Intervention Policies – for more details see here

Chair

Dr. Luca Taschini

Luca Taschini is a Research Fellow at the Grantham Research Institute on Climate Change and the Environment at LSE working mostly on the theory of market-based mechanisms, energy economics and technology change. His current research aims to understand both theoretically and practically the functioning and design of markets for permits, including questions of price containment mechanisms, participation restrictions, the linkage of markets and the investigation of policy controls able to promote technology deployment.

 

Luca Taschini holds a Ph.D. in Economics from the University of Zurich and is a member of the CESifo Energy and Climate Economics Research Group in Munich and a visiting scholar at the Research Center for Sustainability Science at the Ritsumeikan University in Japan.

Dahrendorf Visiting Fellows

Dr. Carolyn Fischer

Carolyn Fischer is a Senior Fellow at Resources for the Future and Associate Director of its Center for Climate and Electricity Policy. She applies microeconomic theory to a broad range of environmental issues. In the climate and energy policy arena, she has published articles on designing cap-and-trade programs, fuel economy standards, renewable portfolio standards, energy efficiency programmes, technology policies and the Clean Development Mechanism. A current focus of her research is the interplay between international trade and climate policy. Carolyn Fischer holds a Ph.D. in Economics from the University of Michigan and is also a Fellow of the CESifo research network. She previously served as a staff economist at the Council of Economic Advisors to the President.

Prof. Frank Jotzo

Frank Jotzo is Associate Professor and Director of the Centre for Climate Economics & Policy at the Crawford School of Public Policy, Australian National University. His research is on the economics and policy of climate change, energy economics and policy, as well as on broader issues of development and economic reform. He has advised governments, is a Lead Author of the Fifth Assessment Report by the Intergovernmental Panel on Climate Change and is a frequent contributor to the public and policy debate in Australia and internationally.

Members

Prof. Paolo Falbo

 

Paolo is associate professor at the Department of Economics and Management of the University of Brescia. His main research interests are related to the energy and the environment markets, risk management and to simulation methods, with a particular regard to Markov chain bootstrapping. He has been scientific responsible of national research projects. He serves regularly as peer reviewer for several major scientific journals. He has occasionally acted as scientific consultant for major companies in the energy, food, IT and manufacturing sectors. Paolo holds a PhD in Business, curriculum in Capital Markets and Corporate Finance, from the University of Bergamo.

Prof. Rüdiger Kiesel

 

Rüdiger heads the chair for “Energy Trading and Financial Services” at the University Duisburg-Essen. Previously he has been Director of the Institute for Mathematical Finance at the University of Ulm. He also held positions as Lecturer and Reader for actuarial science and financial mathematics at Birkbeck College, University of London and London School of Economics, where he is still visiting professor. He is also a Visiting Professor at the Center for Mathematics for Applications, Oslo University. His main research areas are currently risk management for power utility companies, design and analysis of Emission Trading Schemes, valuation and hedging of derivatives (interest-rate, credit- and energy-related), methods of risk transfer and structuring of risk (securitization), and the stochastic modelling of financial markets using Lévy-type processes. He is Co-author of the Springer Finance monograph Risk-Neutral Valuation (now in its second edition) and has written more than fifty published research papers. He is a frequent speaker at international conferences and organized several practitioner seminars. Professor Kiesel also consults financial institutions and regulators on (credit- and energy-) risk management, derivative pricing models and asset allocation.

Dipl. math. Sascha Kollenberg

 

Sascha is a Research Fellow at the Chair for Energy Trading and Finance at the University of Duisburg-Essen. After receiving his Diploma in Mathematics from the University of Bonn, he is now focusing on modelling of price containment mechanisms in carbon markets and their analysis via optimal stochastic control. Sascha's other research interests include market illiquidity and optimization of numerical methods for finance.

Dr. Robert Marschinski

 

Robert is a senior scientist at the Potsdam Institute for Climate Impact Research (PIK), where he co-leads the research group on 'Policy Instruments'. He is also a lecturer at the department of Economics of Climate Change at the University (TU) of Berlin. Topics addressed in his work include emissions trading, carbon leakage, and post-Kyoto international climate policy. Robert holds a PhD in economics and a MSc in physics.

Dr. Santiago Moreno

 

Santiago is a research fellow in Jean-Charles Rochet's Chair at the University of Zurich. He is currently working on optimal portfolio structure in the banking industry; debt maturity structure of banks; markets for permits, regulation and technology adoption. On a broader scope, his aim is to analyze these problems from the point of view of a regulating agency, and to study the impact that different policies have on social welfare. Santiago holds a PhD in Mathematical Finance from the University of British Columbia in Vancouver and is an alumnus of the Alexander von Humboldt Foundation.

Dr. Cristian Pelizzari

Cristian is assistant professor at the Department of Economics and Management of the University of Brescia, Italy. His research is focused on environmental markets, risk management, and scenario generation. He has participated to national and local research projects on these topics. Cristian holds a Master of Arts in Mathematics with a Specialization in the Mathematics of Finance from Columbia University in the City of New York and a Ph. D. in Mathematics for the Analysis of the Financial Markets from University of Brescia.

Prof. Katrin Rehdanz

 

Katrin is associate professor for environmental and resource economics at the Christian-Albrechts University of Kiel associated with the Kiel Institute for the World Economy. She holds a diploma and a PhD in economics from the University of Hamburg. She has a strong background in environmental valuation and environmental-economy modeling. Her main areas of research are environmental impact assessment and climate policy analysis.

Dr. James Rydge

James Rydge joined the Grantham Research Institute on Climate Change and the Environment in May 2009. He works closely with Lord Nicholas Stern collaborating across a wide range of research areas, including green growth, international agreements and energy and climate policy in developed and developing countries. Previously, James Rydge worked at the University of Sydney as Research Fellow and Lecturer in the finance discipline, School of Business. James Rydge has also worked in corporate finance at PricewaterhouseCoopers in Sydney and in debt markets at the Bank of New York Mellon in London. James Rydge has a Ph.D. in economics from the University of Sydney, sponsored by the Australian Stock Exchange. His Ph.D. research specialised in financial markets, with a particular focus on equity market microstructure and regulation. He also holds a Master and a Bachelor of Commerce from the University of Sydney.

Dr. Alessandro Tavoni

Alessandro is a Research Fellow at LSE’s Grantham Research Institute on Climate Change and the Environment. He investigates the drivers of cooperative behaviour in the global commons (such as coordinated investment in climate stabilisation). This is tackled through a combination of non-cooperative and evolutionary game theory models, as well as laboratory experiments, surveys and simulations, in an effort to shed light on the potential solutions to environmental dilemmas.


Alessandro holds a PhD in Economics from Universita’ Ca’ Foscari di Venezia and is a member of the Levin Lab at Princeton University, as well as an Associate Researcher at Fondazione Eni Enrico Mattei (FEEM).

Dipl. math. Ya Wen

 

Ya joined the chair of energy trading and finance at the University of Duisburg-Essen and began his PhD study since 2011. He is working as a research fellow on the BMBF project “Analytics and Empirics of Emission Trading (AEET)” sponsored by the German Federal Ministry of Education and Research with the research topic “linking schemes”, which focuses on a stochastic model approach to obtain price dynamics for permits in different linking scheme design. His current research aims to study the implied volatility and banking value of permits. Before this Ya graduated from the University of Heidelberg with a diploma in mathematics.


Dahrendorf Workshops

At the Dahrendorf Working Group 4 "kick-off" meeting held at the Centre for European Policy Studies (CEPS) in Brussels on 21 February, Post-Doctoral Fellow James Rydge presented on the post-2020 EU climate policy framework. James and Chris Duffy, the Policy Communications Manager at the Grantham Research Institute at LSE, ran a series of interviews with leading EU policy-makers, regulators, industry officials and investors and James presented the findings at the meeting. The message that came across strongly from the interviews is that the post-2020 period represents a unique opportunity for Europe to develop and integrated development agenda (social, economic and climate) for renewal and growth based on a transition to a low-carbon economy. The European Commission is very keen to receive future Dahrendorf research informing around key issues in the design of a post-2020 framework, including on targets, competitiveness and policy design as well as a ETS reform.

 

Within the debate on the reform of the EU ETS, Robert and Godefroy currently investigate the option of establishing an independent authority for managing the overall supply of emission allowances, following the model of a central bank. Their work focuses on exploring the potential mandate of such an institution, including the degree of independence and the associated accountability mechanisms, the possible tools used to justify market intervention as well as the institutional barriers. It will provide an assessment of the merits and demerits of various designs for this independent authority, and in addition examine their added-value with respect to existing proposals for reforming the carbon market.

Rüdiger Kiesel, Ya Wen, Sascha Kollenberg, Luca Taschini
James Rydge, Luca Taschini (both LSE GRI) + Andrei Marcu, CEPS
Peter Zapfel, European Commission

The price of carbon in the EU ETS has fallen to a level that could damage not just Europe's low-carbon ambitions but the credibility of the ETS itself. The problem is structural and inherent in the way the ETS has been designed. The solution requires both short-term measures to re-establish the credibility of the market and long-term reforms to make the ETS more responsive to external economic factors.  

Senior Dahrendorf research fellow Luca Taschini presented the structural options to strengthen the EU ETS. Luca and Sascha Kollenberg, PhD candidate at the University of Duisburg-Essen in Germany, are currently investigating long-term reforms to make the ETS more responsive to external economic factors and new regulations. For example, new energy efficiency or renewable obligations, as currently contemplated, are liable to affect future allowance demand. Economic factors determine the allowance demand by influencing abatement costs and, ultimately, altering the relation between allowance supply and allowance demand. In addition, overlapping regulations can cause structural demand changes and generate permanent shocks.


Price management mechanisms could establish an urgently required flexibility in the cap and trade system. However, such a mechanism is difficult to reconcile with the fundamental principles of an emissions trading system. Luca and Sascha propose a rules-based quantity regulating mechanism that explicitly manages the allowance supply by means of a reserve management system. Information about the allowance restriction or expansion will be public and the mechanics that regulate injection or withdraw of allowances will be designed to contain the allowance price within a target zone. Hereby the mechanism will ensure to meet the 2030 CO2 target whilst dynamically responding to economic and techonological shocks. Their proposal will constitute a flexible yet strictly mandated management of supply.

 

In the EU ETS, permitting allowance banking helps to reduce the compliance costs and can also prevent the collapse of the price system. However, the size and the dynamics of the banking value have not been investigated. A current research of Prof. Dr. Rüdiger Kiesel and Ya Wen, PhD candidate at the University of Duisburg-Essen, focuses on a bivariate EUA pricing model based on the observable prices and its implied risk premium to obtain an implied banking value. This banking value provides an insight into the market participants’ view of the permit availability in the current and subsequent trading periods.

 

Workshop powerpoint slides