Pollutant-specific scale economies in a supply chain under cap-and-trade regulation within the context of sustainable insurance

Abstract

This paper introduces a capped call option within a sustainable insurance model, where the insurer acts as a fund provider and supply chain manufacturers serve as fund borrowers. The risks associated with these borrowing manufacturers are capped through green lending, providing a structured way to manage financial exposure. Both upstream and downstream manufacturers use multiproduct production technology, which inherently produces pollutants. The study investigates how cap-and-trade limits influence pollution in carbon-intensive supply chains under varying cost structures. It reveals that stricter pollution caps enhance the insurer's profit margin when manufacturers adopt subadditive multiproduct technology—where joint production reduces costs—but diminish the margin when superadditive technology is employed, resulting in higher joint production costs. Moreover, tighter cap-and-trade restrictions may inadvertently lead to increased overall pollution, as the incentive to produce more under these multiproduct cost structures can outweigh the intended environmental benefits. These findings emphasize the importance of designing green finance and technology promotion policies that account for the specific cost dynamics within supply chains, ensuring that environmental, public health, and clean energy objectives are effectively balanced.