DP13343 Information Aggregation in Emissions Markets with Abatement
A key policy argument in favor of emissions markets (relative to command-and-control types of
regulation) is their ability to aggregate dispersed information and generate price signals to guide
rms' trading and abatement decisions. We investigate this argument in a multi-period model
where rms receive noisy private signals about their current period emissions and privately
observe their previous period emissions before this information is made public to the rest of
the market. Firms respond to information by trading and abating emissions. We show that
there exists a rational expectations equilibrium that fully aggregates rms' private information,
justifying the policy argument in favor of emissions markets, in the absence of other frictions. We
also derive predictions about how prices should be reacting to new private or public information
and show that the possibility of abatement dampens the impact of shocks on prices. Finally,
we show that the information aggregation result breaks down if rms' abatement costs are also
private information.
