Learning or lock-in: Optimal technology policies to support mitigation

We investigate conditions that amplify market failures in energy innovations, and suggest optimal policy instruments to address them. Using an intertemporal general equilibrium model we show that ‘small’ market imperfections may trigger a several decades lasting dominance of an incumbent energy technology over a dynamically more efficient competitor, given that the technologies are very good substitutes. Such a ‘lock-in’ into an inferior technology causes significantly higher welfare losses than market failure alone, notably under ambitious mitigation targets. More than other innovative industries, energy markets are prone to these lock-ins because electricity from different technologies is an almost perfect substitute. To guide government intervention, we compare welfare-maximizing technology policies including subsidies, quotas, and taxes with regard to their efficiency, effectivity, and robustness. Technology quotas and feed-in-tariffs turn out to be only insignificantly less efficient than first-best subsidies and seem to be more robust against small perturbations.

► Carbon pricing alone may induce costly lock-ins into non-learning energy technologies.
► The energy sector is prone to lock-ins due to the high substitutability of energy.
► Subsidies, feed-in-tariffs and technology-specific quotas prevent welfare losses.
► The performance of subsidies is very sensitive to small deviations.
► Feed-in-tariffs and quotas are more robust against deviations.