Political Credibility and the Limits of Emissions-Based Climate Policy Under Uncertainty

Emissions trading systems (ETSs) are widely regarded as key market-based instruments for mitigating greenhouse gas emissions. Their long-run effectiveness, however, is usually explained through carbon pricing and static cost efficiency. This paper develops a theoretical framework to examine the economic consequences of declining regulatory credibility. The model identifies two interrelated channels through which political credibility shapes climate policy outcomes. Erosion of regulatory credibility weakens preventive decarbonization investment while simultaneously reducing the effectiveness of later regulatory interventions aimed at limiting climate risks. Evidence from existing ETSs illustrates the practical relevance of these mechanisms. The analysis shows that the main limitation of emissions-based climate policy lies less in the economic design of the instrument itself and more in the institutional conditions required to sustain credible long-term policy commitment.