## How to Drive Deep Decarbonization

## Source details

**Canonical URL:** [How to Drive Deep Decarbonization](https://www.imf.org/-/media/files/publications/fandd/article/2021/september/how-to-drive-deep-decarbonization-stock.pdf)

## Other formats

- [Markdown version](/-/media/files/publications/fandd/article/2021/september/how-to-drive-deep-decarbonization-stock.pdf.md)
- [Structured JSON version](/-/media/files/publications/fandd/article/2021/september/how-to-drive-deep-decarbonization-stock.pdf.json)

---

### Context and motivation
- Global temperatures must increase by no more than 1.5 or 2 degrees Celsius to avoid severe damage to ecosystems and human health and welfare.
- Recent political targets cited:
  - United Kingdom: 78 percent emissions reductions by 2035, relative to 1990 levels.
  - United States (Biden administration, nonbinding goal): reduce net greenhouse gas emissions by 50–52 percent by 2030, relative to 2005.
  - Several US states (California, Colorado, Massachusetts, New York): legislated targets to approach or reach net zero emissions by 2050.

### Core argument
- Traditional economic prescription: implement a robust economy-wide price on carbon (e.g., a carbon tax that starts moderate and grows predictably) to incentivize shifts to lower-carbon energy and to allow revenues to reduce distortionary taxes or fund public investment.
- Political and practical limits:
  - Carbon pricing is often politically unpopular; only a small fraction of worldwide emissions are covered and prices tend to be low.
  - The original rationale for economy-wide carbon pricing assumed green energy would remain far more expensive than fossil fuels. That assumption is changing as green technologies fall in cost.

### Three externalities shaping policy design
- Greenhouse gas externality: damages from emissions are not borne by emitters.
- Innovation externality: innovators cannot fully appropriate the financial gains from innovation, justifying public support for research and commercialization.
- Network (chicken-and-egg) externalities: e.g., EV adoption and charging infrastructure can create multiple stable equilibria (low-adoption/low-infrastructure vs. high-adoption/high-infrastructure).

### Implications of falling green technology costs
- In many regions, wind- and solar-generated power can already be less expensive than fossil-fuel generation; costs of technologies using green electricity (e.g., EVs) have fallen substantially.
- Policy emphasis should shift from making it more expensive to be dirty toward making it cheaper to be green.
- Multiple market failures imply multiple, sector-specific policy instruments are efficient; there is no one-size-fits-all solution.

### Sectoral examples and policy implications
- Light- and medium-duty vehicles (EVs):
  - New EV prices are on track to fall below comparable internal combustion engine vehicles during this decade, driven by battery price declines and learning-by-doing.
  - EVs have lower operating and maintenance costs.
  - Network externality: lack of public slow (level 2) charging stations limits adoption and biases purchases toward higher-income households with garages.
  - A $40/ton carbon tax implies $0.36 for a gallon of gasoline—insufficient alone to drive rapid EV adoption given partial consumer attention to fuel prices.
  - Policy priority: address charging infrastructure and innovation in batteries (transitional, limited-duration, one-time costs) rather than relying primarily on carbon pricing.

- Aviation:
  - Aviation is a major and growing CO2 source and hard to decarbonize.
  - Sustainable aviation fuel pathways include:
    - Conventional routes (conversion of waste vegetable oils and oil crops).
    - Advanced pathways (low- or negative-carbon alcohols such as ethanol from energy grasses converted to jet fuel).
  - US EIA projection: petroleum jet fuel price of $2.77/gallon in 2050 (2020 US dollars).
  - Implication: switching to sustainable aviation fuel will require robust funding to address innovation externalities and, when scalable fuels exist, a high sectoral carbon price (explicit price or clean fuel standard). Timing matters to avoid locking in first-generation fuels that are not scalable or truly low-carbon.

- Power sector:
  - In some parts of the United States, building new wind and solar is less expensive than running existing coal and natural-gas-fired generators.
  - US power-sector modeling suggests a national policy that effectively prices carbon—such as a clean electricity standard—is necessary to achieve substantial near-term decarbonization, for example 80 percent by 2030.
  - Deeper decarbonization likely requires significant innovation-driven cost reductions in storage technologies.
  - Institutional and infrastructure constraints (time-of-day pricing, load management, siting transmission) limit the ability to transmit renewables from resource-rich regions to demand centers.
  - Policy priorities: sectoral policies that place a price on carbon (clean electricity standard), support for R&D in long-term storage, and addressing infrastructure and institutional barriers.

### Role of economy-wide carbon pricing
- An economy-wide carbon tax combined with renewable subsidies could replicate some decarbonization effects and support other sectors, including aviation in future decades.
- However, given cheaper green options today and political resistance, pursuing an economy-wide carbon price is a lower priority now than when being green was costly.
- Economy-wide pricing alone, at politically plausible levels, is neither sufficient nor fully efficient to drive deep decarbonization.

### Policy design and the role of economists and institutions
- Sectoral policies can be less visible politically but risk inefficiencies and poorly targeted transfers; cost-effectiveness is critical given the scale of the challenge and the need to avoid wasteful spending.
- Key sectoral policy design questions include:
  - How to design charging station policies to maximize EV adoption and use rather than subsidize inframarginal projects?
  - Whether green industrial policy (for example, subsidizing domestic battery production) is cost-effective for long-run emissions reductions?
  - Whether purchase subsidies for EVs are passed through to consumers and stimulate sales?
  - Which policies most efficiently support development of low-carbon sustainable aviation fuels?
- Economists’ comparative advantages: disentangling incentives, anticipating unintended consequences, assessing costs and benefits.
- Practical challenges: sectoral policies can be highly detailed and policy is evolving faster than academic research; global economic institutions (e.g., the IMF) can provide timely, nuanced sectoral expertise to promote cost-effective transitions to cheaper green equilibria.

*Source: James H. Stock, September 2021, Finance & Development*

---


_Source: https://www.imf.org/-/media/files/publications/fandd/article/2021/september/how-to-drive-deep-decarbonization-stock.pdf_