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The Composition Effect of the Socially Optimal Green Transition - December 2023 - with Michael B. Nattinger

The climate-macro literature largely focuses on optimal policies to address climate feedback in a representative firm framework. Empirically, we show that the emission intensity of U.S. public firms features substantial and persistent heterogeneity. In the presence of this heterogeneity, we illustrate a novel of the constrained Social Planner’s allocation when firm exits are endogenous: the Planner exits firms with dirtier production technologies at a higher rate, making the distribution over production technologies itself greener. We extend this intuition from an illustrative model into a general-equilibrium heterogeneous-firm model, in which we characterize and solve the problem of the Planner. We derive socially optimal carbon taxes which implement the Planner’s allocation in a decentralized environment, and compute the transition to the long-run equilibrium with and without these taxes.