Biofuels and Climate Change Mitigation: A CGE Analysis Incorporating Land-Use Change

We examine the impact of a “green network effect” in a market characterized by consumers’ environmental awareness and competition between firms in terms of both environmental quality and product prices. The unique aspect of this model comes from the assumption that an increase in the number of consumers of green (brown) product increases the satisfaction of each green (brown) consumer. We show that, paradoxically, when the network effect of a green product is higher than that of a brown product, this externality reduces product environmental quality and raises consumption of the green product. Conversely, when the network effect of the brown product is higher, the externality improves product environmental quality and raises consumption of the brown product. In both cases, the network effect does not affect the overall pollution level. The externality correction requires the use of three optimal fiscal policies: an ad valorem tax on products, an emission tax, and a subsidy or a tax on the green purchase. A second-best optimum can also be reached through the green taxation.