The introduction of carbon taxes is advocated to reduce the carbon footprint of firms and households (Stavins [2020]; Metcalf [2019]). One argument in support of the introduction of this environmental tax is the provision of a direct economic incentive for reducing carbon emissions, alongside revenue generation for climate mitigation initiatives (Allan, Lecca, McGregor, and Swales [2014]). Additionally, these Pigouvian taxes facilitate the internalization of costs connected to adverse externalities arising from pollution, and can potentially drive innovation aimed at reducing carbon emissions (Goulder and Mathai [2010]). On the other hand, a typical concern is _carbon leakage_ ,<sup>6</sup> that is, the transfer of emissions from the local (regulated) jurisdiction to non-regulated ones as a result of the firms’ response to the policy. This concern is limited for small economies such as the DR, which contribute marginally to the global stock of carbon emissions generated worldwide. Other concerns regard the equity, distributional impact, and costs of the implementation of carbon mitigating policies, especially in developing countries. Additionally, the imposition of an environmental tax could bring negative impacts on economic growth, employment, and competitiveness (see, among others, Zhang, Guo, Zheng, Zhu, and Yang [2016]). Negative welfare effects could also arise as firms may pass on the increased energy costs to customers (Fabra and Reguant [2014], Marion and Muehlegger [2011]). Lastly, the efficacy of carbon taxes likely varies given institutional characteristics. For example, Allen, Barbalau, and Zeni [2023] argue that the development of financial market instruments contingent on carbon emissions shapes the optimal level of a carbon tax.

Numerous studies examine the effects of implementing carbon taxes from various perspectives.<sup>7</sup> K ̈oppl and Schratzenstaller [2023] offer an overview of their impact on diverse outcomes including macroeconomic effects, competitiveness, innovation, and distributional implications. The majority of these studies do not identify adverse effects of a carbon tax introduction on GDP growth, employment, competitiveness, or innovation. Some studies aim at uncovering the determinant of emissions and related firm choices (Haller and Murphy [2012]). Firm idiosyncratic characteristics are important in discerning the relationship between firm climate adaptation and performance. In this regard, Capelle, Kirti, Pierri, and Villegas Bauer [2023] provide direct evidence of the positive link between productivity-enhancing investments and lower emission intensity. Similarly, Lanteri and Rampini [2023] prove the importance of financing frictions in determining firm-level emissions. Yet the extant literature scarcely addresses the potential trade-off between TFP and environmental taxes (see, for example, Yamazaki [2022]) or attempts to model directly the change in firms’ production process brought by the introduction of such taxes. We fill this void by developing a theoretical framework that incorporates energy consumption as a crucial input within the production function. This

> 6See, among others, Fowlie and Reguant [2022].

> 7The World Bank [2023b] provides the latest information on carbon pricing schemes introduced around the world.

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