General Equilibrium Effects of Carbon Offsets

Abstract

We construct an analytical general equilibrium model of an economy with carbon offsets, and show that increasing the carbon offset price has an ambiguous effect on aggregate emissions and welfare. Using two carbon accounting metrics, we demonstrate that offsets are over-credited under many parameterizations; however, offset under-crediting can also occur. Due to general equilibrium effects, neither carbon accounting metric is a sufficient statistic for welfare. Furthermore, we define four margins whereby offsets can respond to payments, including a margin not previously identified. Our results suggest that market spillover effects warrant consideration when evaluating carbon offset policies.