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The Limits of Carbon Pricing

All economists who accept the scientific reality of climate change support public policies that make polluters pay more for the costs they impose on society. But it is worth noting that explicit carbon prices played almost no role in the dramatic cost reductions in solar and wind power in recent years.

LONDON – In 2004, German households installing rooftop solar energy systems received a guaranteed price of €0.57 ($0.68) per kilowatt hour (kWh) generated. In Mexico last week, a large-scale energy auction was won at a bid price of $0.0177 per kWh. Even comparing similar-size projects, solar costs have fallen 90% in ten years. Improvements in photovoltaic technology make further reductions inevitable: within five years, we will see a price of $0.01 per kWh in favorable locations.

This stunning achievement has been driven by huge private-sector investment and cutting-edge innovation. But it would never have occurred without strong public-policy support.

Publicly sponsored research ensured basic scientific breakthroughs, and large initial subsidies, in Germany and then in other countries, enabled the industry to achieve critical scale. Solar now costs less than coal in many countries, because initial public subsidization unleashed a self-reinforcing cycle of increasing scale, continuous learning, and declining cost.

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