The Macroeconomics of Clean Energy Subsidies

We study clean energy production subsidies in a quantitative climate-economy model. Clean energy production subsidies decrease carbon emissions if and only if they lower the marginal product of dirty energy. The constrained-efficient production subsidy equals the marginal external cost of dirty energy multiplied by the marginal impact of clean energy production on dirty energy production. With standard functional forms, two factors determine the impact of clean energy production subsidies on dirty energy use: the elasticity of substitution between clean and dirty energy and the price elasticity of demand for energy services. With some commonly used parameter values, subsidies on clean energy production increase carbon emissions and decrease welfare relative to laissez faire. With greater substitutability between clean and dirty energy, the production tax credits in the Inflation Reduction Act can generate modest emissions reductions. Even in this more optimistic scenario, a clean energy production subsidy generates significantly higher emissions and lower welfare than a tax on dirty energy.