Capacity decisions with demand fluctuations and carbon leakage

Abstract

This paper investigates the optimal mix between home capacity and imports to face an uncertain demand. It is proved that, if the difference between the home variable cost and the import price is large, the optimal home capacity increases as uncertainty increases, while it decreases if it is small. The model is calibrated using data from the cement sector to study the impact of a unilateral high CO2 price in Europe. The results suggest a higher carbon leakage rate and more relocation of the industry than deterministic models would

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