Which Social Cost of Carbon? A Theoretical Perspective

This paper develops a theoretical foundation for the social cost of carbon (SCC). The model highlights the source of debate over whether countries should use the global or domestic SCC for regulatory impact analysis. I identify conditions under which a country’s decision to internalize the global SCC is individually rational. I show that obtaining international consensus on a uniform value to internalize will be more challenging than often appreciated. I introduce the notion of a “preferred SCC” to reflect each country’s preference conditional on a true value of the global SCC and a distribution of the domestic SCCs among countries. While all countries have a preferred SCC greater than their domestic SCC, a country’s preferred SCC can be greater than or less than the global SCC. How these preferences translate into agreement depends on institutional arrangements for collective decision making, for which I provide empirical evidence based on various decision rules.