Emissions Targets and the Real Business Cycle: Intensity Targets versus Caps or Taxes

For reducing greenhouse gas emissions, intensity targets are attracting interest as a flexible mechanism that would better allow for economic growth than emissions caps. For the same expected emissions, however, the economic responses to unexpected productivity shocks differ. Using a real business cycle model, we find that a cap dampens the effects of productivity shocks in the economy. An emissions tax leads to the same expected outcomes as a cap but with greater volatility. Certaintyequivalent intensity targets maintain higher levels of labor, capital, and output than other policies, with lower expected costs and no more volatility than with no policy.