Mechanism Design For Dynamic Carbon Trading Based On Banking

The global climate change has become the most serious environment issue whichhuman confront with. In order to address the problem of global warming, internationalsocieties have already started the cooperation in reducing the emission of greenhousegases. United Nations Framework Convention on Climate Change in1992marks theideological consensus reached. And the Kyoto Protocol passed in1997and taken effectin2005is a symbol of consensus for action. However, the operation consensus is thepoint of controversial, but the principal of emission reduction through marketmechanism in Kyoto Protocol could be widely accepted by the international society.Theoretical studies have shown that, the mechanism of carbon trading is the mosteffective way of controlling emissions.In this paper, under the assumption of bounded rationality and based onmicroeconomics analysis of economic efficiency and enterprise profit maximization,we propose an optimal decision model related with the low carbon economy andcarbon reduction, and propose mechanism design for intertemporal carbon tradingunder the general equilibrium theory framework.The research methods and key pointsmainly focus on the internal logic of mechanism, which differs from the existingdomestic researches about carbon reduction and carbon emissions. Other domesticresearches are too dependent on the available data, significantly lack of research anddeduction towards the model, and are derived only from the perspective ofmacroeconomics, draw some conclusions between carbon emissions and economicfactors on the statistical significance. Those researches are insufficiency in the deepanalysis about the internal logic of carbon trading mechanism from microcosmicperspective, and lack of the convincing research about decision scheme at theenterprise level.Firstly, we do an overview about carbon trading and banking mechanism, define theresearch object, and establish the research subject. Secondly, we review andsummarize the relative concepts about dynamic carbon trading and the relative theoriesabout environmental economics and institutional economics which are used in ourresearch. To be more specific, we also review and summarize the general equilibrium theory and the optimal control theory which are the most important economic thoughtand research tools modeling for this paper. Thirdly, on the basis of the optional controltheory we propose the optional decision model at the enterprise level to analyze theenterprise’s behavior in the process of dynamic carbon trading, and take the bankingmechanism into consideration of carbon trading framework, get the optional bankingrates whereby intertemporal trading ratio. Finally, we put customers into generalequilibrium framework of carbon trading on the basis of the theory that environmentalprosperity nights belong to customers, proving that carbon trading mechanism isefficient under one-unit intertemporal trading ratio, when market equilibriumsolution is Pareto optimal solution. Finally, we summarize the full paper and illustratethe limitation of this article and follow-up work.The research results are as follows:First, we got the optimal path to the carbon price. The conclusion is that if theenterprise either wants to bank emissions or does not face a restriction on theborrowing of emission credits, then a nonbounded solution requires that the price pathof permits follow Hotel ling’s rule and grow at the rate of return earned from holdingany other asset. Equivalently, the present value price of permits is constant. If anenterprise faces a binding constraint on the borrowing of emission credits, then the rateof growth in prices must be less than the comparable interest rate. In this case thepresent-value price of permits is decreasing through time. The marginal value of anadditional unit of emissions in the systemwide bank is decreasing through time.Second, we got the optimal path of carbon emission. The conclusion is that, ifenterprises never desire to borrow emissions or desire to borrow and are allowed to doso, then the enterprises’ emission streams will decline through time. When borrowingis not allowed and enterprises desire to borrow, aggregate emissions could increasethrough time. Enterprises will want to borrow emissions when standards are constantor not becoming more stringent at a sufficiently high rate. Hence, if standards areconstant through time so that enterprises desire to borrow, but are not allowed to do so,then the rate of emissions will remain constant through time. In this case we can givean economically interesting interpretation of the multiplier on the non-negativityconstraint on the bank for enterprise.Therefore, the multiplier on the bank’s non-negativity constraint, can be interpreted as the periodic payment that enterprisewould be willing to make on a perpetual annuity whose purchase price is equal to thepresent discounted cost of an emission permit.Third, if there is an internal solution in optimal decision model, the social value ofthe marginal product of capital in production and the social value of the marginalproduct of capital in abatement and the shadow cost (i.e. opportunity cost) of capitalare all equal. The marginal rate of transformation between output and emissions mustbe equal to the marginal technical rate of substitution between them, equal to the ratioof shadow prices of both.Forth, a permit banking system for the special case of a pollutant that only causesstock damages is also developed. We establish a dynamic trading model consideringstock damages and flow banking, and get the optimal intertemporal trading ratio forbanking. This paper shows that environmental regulators can achieve the sociallyoptimal level of emissions and output through time by setting the correct total sum ofallowable emissions, and specifying the correct intertemporal trading ratio for banking.For the case of greenhouse gases, we show that the optimal intertemporal trading ratehas the closed-form solution equal to the ratio of current marginal stock damages to thediscounted future value of marginal stock damages less the decay rate of emissions inthe atmosphere when private and social discount rates are identical. But when theprivate and social (individual agent and collective group) discount rates diverge, theflow permits banking interest rate must be increased by their difference.Finally, based on the idea of environmental property rights belonging to thecustomer, we bring customers into the general equilibrium framework of carbontrading; prove that under one-unit intertemporal trading ratio, carbon tradingmechanism is effective and market equilibrium solution is Pareto optimal solutions.