Modified Ramsey Rule, Optimal Carbon Tax and Economic Growth

Abstract

In contrast to the overlapping-generations model, it is allowable to discount the future utility in a dynasty model without the ethical difficulty related to intergenerational conflicts. Much precedent research uses Ramsey-type optimal growth theory in order to estimate the social discount rate. However, one must note that almost all the formulations neglect the existence of negative intertemporal externalities. This problem is vital when one analyzes the global warming problem mainly caused by the excess concentration of carbon dioxide (CO 2 ). This is because an adjoining effect of capital accumulation exists besides the improvement of product capacity, which is reflected in the rate of interest (or equivalently, the marginal productivity of capital). That is, one cannot neglect a negative externality to the future productivity that originates from the excess emissions of CO 2 . Accordingly, following the optimal growth theory, the effective social discount rate should be heightened by a proportional carbon tax to suppress future excess consumption/ emissions than in the case of the existing analyses, which exclude such an intertemporal external diseconomy.