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Climate Change and Common SenseEssays in Honour of Tom Schelling$
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Robert W. Hahn and Alistair Ulph

Print publication date: 2012

Print ISBN-13: 9780199692873

Published to Oxford Scholarship Online: May 2012

DOI: 10.1093/acprof:oso/9780199692873.001.0001

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PRINTED FROM OXFORD SCHOLARSHIP ONLINE (oxford.universitypressscholarship.com). (c) Copyright Oxford University Press, 2021. All Rights Reserved. An individual user may print out a PDF of a single chapter of a monograph in OSO for personal use. date: 22 January 2022

Derivative Markets for Pollution Permits and Incentives to Innovate

Derivative Markets for Pollution Permits and Incentives to Innovate

(p.225) 12 Derivative Markets for Pollution Permits and Incentives to Innovate
Climate Change and Common Sense

Linda R. Cohen

Amihai Glazer

Oxford University Press

Innovation can be encouraged by grants of a patent monopoly, subsidies to innovative activities, and prizes to innovators. This chapter examines a fourth mechanism—a firm engaged in R&D has private information about whether it succeeded or failed to innovate. It can profit from this private information by buying or selling an asset whose price will depend on whether the innovation is introduced or not. In particular, we look at an innovation which reduces the cost of abating pollution, reduces the prices of pollution permits, and allows the firm engaged in R&D to profit by buying and selling futures for such permits. We determine the government policy which can generate an equilibrium with sufficient profits to induce a firm to invest in R&D, and to induce the firm which made the innovation to charge a zero price for use of its innovation.

Keywords:   innovation, pollution permits, R&D, futures markets, climate change

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