Substitution and Price Effects of Carbon Tax on CO2 Emissions Reduction from Distributed Energy Sources

Eight years after its inception, the Kyoto protocol finally entered into force on February 16, 2005. In this respect, it is imperative to explore different greenhouse gas (GHGs) emissions reduction options in developing countries under the framework of Kyoto protocol. A number of analyses reveal that half of the global emission reductions can be achieved by substituting fossil fuel by non-fossil fuel (e.g., nuclear and renewable energy) sources for electric power generation. Pricing policies are more likely to achieve such a substitution resulting in a significant CO₂ emissions reduction. For this, a carbon emission penalty on fossil fuel based generation is one of the mechanisms of pricing carbon emissions. Imposing a carbon emission penalty on the fossil fuel generation enhances renewable based energy generation to substitute carbon intensive power generation. This effect is called the "substitution effect". The corollary effect of imposing emission penalties on fossil fuel generating plants will be an increase in the average electricity price. This, in turn, will decrease the energy demand from customers due to the negative price elasticity of electricity demand. This effect is called the "price effect". This paper examines the substitution and price effect of carbon emission penalties on fossil fuel generation in mitigating CO₂ emissions from distributed generations (DGs) in a developing country. Also discussed will be the costs and benefits of emission penalties as well as other policy options in mitigating environmental emissions from the renewable based DG resources, such as wind, biomass, and PVs