Green upgrades under emission cap regulation

Manufacturers face significant uncertainty regarding green upgrade returns due to strict emission caps and their informational disadvantage relative to retailers. This paper investigates the interplay between emission caps and asymmetric market information in shaping a manufacturer’s green upgrade and pricing decisions. We develop a game-theoretic model of a supply chain where the retailer holds private demand information, resulting in a signalling game via pricing. Our analysis yields three key insights. First, we reveal a regulatory paradox: relaxing strict emission caps can incentivise upgrades by expanding effective capacity and mitigating double marginalisation. Second, information superiority becomes a strategic liability for the retailer. To credibly signal high demand, the retailer is compelled to lower her margin, which erodes her profit but benefits the manufacturer. Third, information asymmetry generates a positive welfare side effect. The retailer’s strategic margin reduction acts as a corrective mechanism for double marginalisation, leading to lower prices and higher social welfare compared to the symmetric information scenario. Our findings suggest that policymakers should balance regulatory stringency with information structures; specifically, moderate regulatory relaxation in information-asymmetric contexts can effectively stimulate corporate green transformation while enhancing market efficiency.