Sara Biagini (LUISS University)

Title : Carbon neutrality and net-zero in compliance markets

Abstract : In the pursuit of climate risk mitigation, the primary objective is to achieve climate neutrality. Our initial analysis focuses on the impact of carbon neutrality policies on a system of polluting companies regulated within an Emissions Trading System (ETS) carbon market. These companies are required to reduce emissions and are given the option to trade carbon allowances for compliance purposes. Additionally, they may receive extra allowances as subsidies from the regulatory authority to aid in meeting compliance. The key innovation of our approach is that we obtain closed-form results for compliance in each scenario, as opposed to merely in expectation. For a given subsidy scheme, a unique, analytic equilibrium is reached. The resulting allowances price admits a neat expression as a convex combination of each company’s marginal costs, each calculated based on their predicted emissions imbalance. Also, the individual company’s optimal abatement and trading strategies admit an explicit and intuitive decomposition in terms of their emissions imbalance and the equilibrium price. This framework is highly flexible, enabling the exploration of the impacts of various policies in alignment with the regulator’s additional priorities. The more ambitious net-zero goal is obtained as a special case. In here, companies cannot benefit from carbon allowances and they must effectively neutralize all their carbon footprint. The problem is now at the individual company level, and we present a closed form solution for the optimal reduction. We illustrate the results with numerical examples.