Energy transition without dirty capital stranding

Abstract

Avoiding dirty asset stranding matters for protecting wealth and employment in the economies that are rich in pollution-intensive fossil energy and resource assets. This paper analyses, empirically and theoretically, the mechanism for energy transition without dirty capital stranding. We show that a shock that tightens pollution regulations will lead to downward adjustments of capital stocks, investment, capital values, and outputs. However, when the transition includes dynamically accumulating clean capital to induce green structural change, the transition path will move to an equilibrium where both dirty and clean capital can coexist and grow simultaneously. Clean capital, by eliminating the polluting effect of dirty capital, protects the economic values of dirty capital and thus mitigates the extent of dirty capital stranding. When the preference has a unitary elasticity of substitution between consumption and environmental goods and there is no adjustment cost in clean capital accumulation, the energy transition can occur along a balanced growth path with sustained growth of consumption, production, and capital stocks in the long run.