Quantitative environmental economics : modeling marketable permits in discrete and continuous time

Environmental policy instruments, such as marketable permits, exist to help monitor and regulate environmental practices of organizations, i.e. companies and institutions (see [60], [77] and discussion in Chapter 2). Market-based instruments are already employed for the implementation of environmental policies on European scale (European Emission Trading Scheme - EU ETS) and on global scale (Kyoto protocol). In an effort to bridge the gap between the theoretical emission permit price and observed market-price behavior, we investigate the historical time series of the marketable permit price. More precisely, in Chapter 3 we advocate the use of a new GARCH-type structure for the analysis of inherent heteroskedastic dynamics in the returns of SO2 in the U.S. and of CO2 emission permits in the EU ETS. In Chapter 4 we show that the presence of asymmetric (or incomplete) information plays a central role. In other words, market-prices of permits are affected by the different information sets based on which market-players found their financial and investment strategies. A CO2-option pricing model comparison is developed in Chapter 4.7. The option pricing method can be used for hedging purposes and for pricing CO2-linked projects and investments.