Modeling CCS policy support: Implications for market performance, net emissions, and welfare

Abstract

Carbon capture and storage (CCS) is critical for addressing climate change. While governments are increasingly exploring different policy tools to incentivize its adoption, this topic has been under explored in the academic literature from a game-theoretic perspective. We examine a stylized model of CCS given different regulatory and market structure regimes to examine the incentive effects and social welfare implications of proposed policy interventions. Specifically, we examine a simple linear economy model of a wholesale electricity market in the context of a Cournot duopoly where one firm’s generation process entails CO₂ emissions while the second firm’s process does not. The first firm can capture and sequester 90 % of its generated emissions with CCS. We consider two possible policy interventions: a tax on net emissions and a subsidy for CCS where a firm that undertakes CCS receives a subsidy payment based on the amount of CO₂ sequestered. We find that CCS decreases CO₂ emissions relative to the case of no CCS, but without a strong enough CO₂ tax, a high enough sequestration subsidy can increase net emissions, relative to a lower subsidy, because of the imperfect capture rate. Interestingly, we find that CCS can lead to increases in both producer and consumer welfare while reducing net emissions. As such, we suggest that the adoption of CCS may provide a unique tool in simultaneously addressing two market failures characteristic of wholesale electricity markets: the exercise of market power and the negative externality of CO₂ emissions.