Carrot or stick? Environmental and welfare implications of sustainable aviation fuel policies

Sustainable aviation fuel (SAF) serves as a critical short-term measure for reducing aviation's carbon footprint. Two main policy tools, subsidy and quota, have been developed to support its usage. We build an economic model to compare the environmental and welfare impacts of these two policies. First, we find that if an airline uses the same portion of SAF under both policies, the subsidy approach results in reduced SAF costs, augmented airline output, and heightened emissions. Second, the subsidy policy is better than the quota policy in terms of consumer surplus, airline profits, SAF blender profit, and social welfare, if the traditional aviation fuel is sufficiently inexpensive and the emission regulation under the subsidy policy is adequately stringent. Finally, to demonstrate the empirical relevance of our theoretical framework, we have employed empirically-validated parameters for model calibration. Sensitivity analysis indicates that SAF production costs and market potential are pivotal factors influencing governmental policy formulation. With the reduction in SAF production expenses and the growth of the aviation sector, the government is positioned to adopt a more aggressive policy stance, characterized by higher SAF quotas and increased subsidies, to stimulate the uptake of SAF by airlines.