The effects of environmental policies on the abatement investment decisions of a green firm

This paper focuses on environmental policies aimed at rising investment in pollution abatement capital. We assume that ecological uncertainty, i.e., uncertainty over the dynamics of pollution, affects firm investment decisions. Capital irreversibility is not postulated but endogenized using a quadratic adjustment cost function. Using this framework, we study the effects of environmental policies considering taxes on polluting inputs and subsidies to reduce the cost of abatement capital. Environmental policies promoted to enforce abatement capital may generate the unexpected result of reducing the abatement investment rate.

► We model the optimal stopping time, and the level of pollution abatement investment.
► Irreversibility is derived from the adjustment cost technology.
► We study the effects of environmental policies on investment and the firm value.
► A pollution tax reduces investment with an ambiguous impact on the firm value.
► A subsidy stimulates investment but has an unpredictable effect on the firm value.