DP15986 Real Effects of Climate Policy: Financial Constraints and Spillovers

Author(s): Söhnke M Bartram, Kewei Hou, Sehoon Kim
Publication Date: March 2021
Keyword(s): California cap-and-trade, Climate Policy, Financial constraints, internal resource allocation, regulatory arbitrage, spillover effects
JEL(s): G18, G31, G32, Q52, Q54, Q58
Programme Areas: Financial Economics, International Macroeconomics and Finance
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=15986

We document that localized policies aimed at mitigating climate risk can have unintended consequences due to regulatory arbitrage by firms. Using a difference-in-differences framework to study the impact of the California cap-and-trade program with US plant level data, we show that financially constrained firms shift emissions and output from California to other states where they have similar plants that are underutilized. In contrast, unconstrained firms do not make such adjustments. Overall, unconstrained firms do not reduce their total emissions while constrained firms increase total emissions after the cap-and-trade rule, undermining the effectiveness of the policy.