Research

Abstract:
Substituting away from fossil fuels is key in the fight against climate change. However, how and how easily it can be done is still an open question. This paper develops a quantitative framework of the energy transition and shows how the decarbonization of the economy hinges on three main mechanisms endogenous to the model: (i) directed technical change and more efficient use of energy in general and fossil resources in particular; (ii) electrification of the production process; (iii) capacity building for "green" electricity production. I then use the model to evaluate a "net-zero by 2050"-policy. I find that the energy transition happens in a laissez-faire scenario but has to be sped up if the policy target is to be fulfilled. In particular, I find that the required carbon tax is around $250 per ton CO2 and output and consumption growth to be 0.2-0.3 percentage points lower under environmental policy. However, once the target is reached and policy is relaxed, transitional catch-up effects take over, resulting in higher growth, which is clean with emissions staying level or declining further.

Abstract:
Substituting away from fossil fuels is key in the fight against climate change. However, how and how easily it can be done is still very much in question. In this paper, I scrutinize the process of electrification, defined as an increase in the share of electricity in the energy bundle. I first document five trends and facts regarding the use of fossil fuels and electricity as end-use energy in production in the U.S. I provide evidence that these two energy types are strong complements in the short- but more substitutable in the long run. In particular, I estimate the short-run (year-to-year) elasticity of substitution between these two energy inputs to be 0.06 and argue for a Cobb-Douglas relationship and, thus, a unitary elasticity of substitution in the long run. I then build a model that can quantitatively reproduce these facts through a directed technological change mechanism. Crucially, the main driver of electrification is the relative improvement of fossil fuel use efficiency vis-à-vis electricity. Taking into account energy price uncertainty improves the fit of the model.

Abstract:
This paper studies the implications of green subsidies on the economy and the energy transition with an application to the Inflation Reduction Act (IRA), in particular its Investment Tax Credits (ITCs). I extend the quantitative framework developed in Hinkelmann (2024) to include two externalities: a technology externality in final energy use and a learning by doing (LBD) externality for green capital construction in the electricity producing sector. The internalization of these inefficiencies requires the implementation of green subsidies. Internalizing these externalities has important implications for the energy transition. In particular, fossil fuel use in the economy will reduce by 38% by the end of the 2060s compared to a laissez-faire scenario according to the model. Additionally, the two externalities interact. Internalizing the LBD mechanism reduces the technology externality, while internalizing the technology shift exacerbates the implications of unaccounted-for LBD. Investigating the IRA shows that it is leveraging the right externality with an imperfect instrument: The ITCs do not perfectly internalize the LBD externality and might lead to fossil fuel use rebound after their expiration.

Abstract:
We investigate quantitatively how the impact of climate policies such as a carbon tax differs over the short and the long run in the macroeconomy. We document limited possibilities to switch from fossil fuels to green alternatives over short time horizons. Over more extended periods, however, this substitutability increases significantly. The same pattern holds for aggregate energy in the production process so that the energy intensity of production can only decrease in the long run without limiting output. We then build a quantitative macroeconomic growth model that accounts for these patterns through a technology-choice channel. We find that, in order to achieve similar emission targets, carbon taxes should be increased by about 10% permanently compared to models that focus on the long-run only. The economic costs of doing so are surprisingly small, especially in the short run. Additionally, we find that, quantitatively, inter-fuel substitution possibilities are much less important than the economy’s overall energy intensity.

Reluctant Savers and Mortgage Subsidies

with Andrés Bellofatto and Şevin Yeltekin
[ASSA Poster Session slides]

Abstract:
The Mortgage Interest Deduction (MID) ranks among the largest tax expenditures in the US tax code. Despite the many proposals aiming to revise the MID, the ultimate effects of modifying it are still ambiguous and controversial. One argument against this policy points to its regressivity, as it mostly benefits wealthy homeowners. On the other hand, the MID could alleviate self-control problems by promoting savings in an illiquid asset. This paper focuses on this interaction between progressivity and self-control, by studying the effects of eliminating the status-quo MID within a heterogeneous agents model with incomplete markets and Gul-Pesendorfer preferences. Ignoring self-control issues can lead to underestimating the average welfare gains associated with the MID repeal. Crucially, MID tax savings constitute a liquid form of income which exacerbates self-control costs of the losers from the policy reform.

Work in Progress:

"Understanding the Energy Intensity Decline in the U.S.: Evidence and Model", with Mohammadreza Farajpour

Other publications:

"Leaving a Place Better Than You Found It: Making a difference and restoring ecosystems on the Great Barrier Reef", with Anna Phelan, Kathleen Doody, Jack F. Ward, Zheng Yen Ng, Ebony Watson, Lily Fogg, Kate Dutton-Regester, Rocio Vargas Soto, Karla Ximena Vazquez Prada, Hongmin Yan, Annaleise Wilson, Timothy Vanden Berg, Alexander Arkhipov, Jessica Bugeja, Matthew Allen, published in: The Solutions Journal, Volume 11, Issue 2, May 2020