Emission Taxes, Feed-in Subsidies and the Investment in a Clean Technology by a Polluting Monopoly

The paper studies the use of emission taxes and feed-in subsidies for the regulation of a monopoly that can produce the same good with a technology that employs a polluting input and a clean technology. The second-best tax and subsidy are calculated solving a two-stage policy game between the regulator and the monopoly with the regulator acting as the leader of the game. We find that the second-best tax rate is the Pigouvian tax. The tax implements the efficient level of the dirty output but does not affect the total output. On the other hand, the subsidy leads to the monopoly to reduce the dirty output but also to increase the total output. This increase in total output may yield a larger …