Green technology investment: Announced vs. unannounced subsidy retraction

Abstract

Policy uncertainty affects firms' investment decisions and the corresponding societal welfare (total surplus). One common perception is that policy uncertainty has negative welfare effects, and therefore, the regulator should be “transparent” by announcing future policy changes. We show that this is not always true. This paper investigates a firm's green technology investment decision in a dynamic setting, where it decides about the investment timing and size in the presence of technological uncertainty. Initially the regulator incentivizes the investment by subsidizing. As the cost of the green technology is expected to fall over time, at some point the subsidy is retracted. We consider two scenarios, one where the regulator announces the subsidy retraction in advance, and one where it does not do so. The subsidy retraction announcement can motivate the firm to invest too early from a welfare perspective because it wants to catch the subsidy. This rent-seeking behavior implies that for an intermediate range of subsidy levels, not announcing the retraction leads to more favorable welfare consequences. We further show that a larger uncertainty about technological development encourages not to announce the subsidy retraction.