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It is widely accepted that one of the most important characteristics of an effective climate policy is to provide firms with credible incentives to make long-run investments in R&D that can drastically reduce emissions. Recognizing that a government may be tempted to revise its policy design after innovations become available, this note shows how the performance of two policy instruments - prices (uniform taxes) and quantities (tradable pollution permits) - differ in such a setting. The author also discusses the gains from combining either instrument with subsidies to adopting firms.
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