free trade and strategic environmental policy huei-chin lin national dong-hwa university
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Free Trade and Strategic Environmental Policy
Huei-Chin Lin
National Dong-Hwa University
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Introduction
Eco-dumping and free trade Rent-shifting effect, e.g. Brander and Spencer
(1985) Burden-shifting effect, or pollution-shifting effect,
e.g. Markusen et al.(1992) Terms of trade effect and general equilibrium eff
ect, e.g. Krutilla (1991), Rauscher (1994) Inferior factor effect, e.g. Greaker (2003) Bertrand vs. Cournot competition, e.g. Eaton an
d Grossman (1986), Barrett (1994)
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The Model
Two-stage, two-country modelGovernment sets the emission tax in the
first stageFirms choose their output level in the
second stageFirms from different countries have
different abatement/transitional cost
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Notation
θi is the marginal costs of abatement.ei = e(θi ) is the emission level per unit of outp
ut, , and suppose e' < 0, e" > 0.di = d( ) denotes damages from loc
al, global, and transboundary pollution, suppose d' > 0, d" > 0, n: # of firms in each country
jjj
N
j
ji yen 1
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Notation (cont.)
]1,0[ji
denotes the share of country i’s total environmental damage caused by country j’s production.
11
N
i
ji : purely rivalry case (in externality)
NN
i
ji 1
: purely non-rivalry case
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2nd Stage: Industry Equilibrium
A representative firm solves
iiiiiFii
Hii
yyyetyyXpyXpMax
Fi
Hi
)()(,
Fi
Hii yyy
Fii
Hiii ynynX
where
: total production in country i,
: total consumption in country i,
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First order condition:
iiii et
ypp
2
1eti
2i
i
ii
yp
k
ep
Let |e'|= k = - e'.
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The second-order condition
3p'+p"y < 0
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Symmetry case:
Equilibrium output:
p
ptey
)(2
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Learning-By-Doing Capability
Differentiate (4) with respect to y and k yields
)3(
)(2 2
ypp
kedkd
dk
dy dkd
ke
ii ii
If dθ/dk<0, and by definition e'= - k,then dy/dk > 0.
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Learning-By-Doing Capability (cont.)
k = -e '=−(∂e/∂θ) can be treated as a “learning by doing” capability, it shows the effect of the abatement spending on the reduction of emission.
Suppose the size of k is affected by transitional costs of adopting /managing/developing abatement technology. The lower the transitional costs the higher the size of k.
m = ∂k/∂θ = −e" can be treated as “marginal learning by doing capability”.
∂k/∂θ< 0, which means “learning-by-doing” effect increases with a decreasing rate when firm increases its abatement experiences.
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Learning-By-Doing Capability (cont.)
Hence, higher k means a more effective learning-by-doing capability.
dy/dk > 0, i.e., higher k induces higher y. Countries with lower transitional costs of adopting new abatement technology will have higher k, and consequently, it would be able to produce more output.
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Learning-By-Doing Capability (cont.)
Differentiate equation (3) with respect to θi and ti yields
e
k
e
e
etet
e
dt
d
i
i
22
2
)(1> 0
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1st stage: Efficient Emission Taxes
The joint welfare function is
DYte
YetYpYpXduupW
ii
iiiiii
X
][]2)([2
0
ii
X
i dYduupW 2
0)(
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1st stage: Efficient Emission Taxes (cont.)
First-order condition:
i
i
i
j
i
i
i
i
i
i
i
dtd
iiijj
iii
dt
dY
jjjj
jii
dtdY
iijj
iii
dtd
idtdY
iidtdX
eYdd
edd
edd
Yp
)(
)(
)(
2
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Symmetry case
The efficient tax is
eedp
kdt
ij
ii
ij
ii
])([2
])(1[
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1st stage: Nash Equilibrium Taxes
Government chooses ti to maximize
iii
X
iiii dXYpXduupWi )()(])([
0
iiiiiiiiiii
X
i dYetYetYpYpXduupWi ][])([
0
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1st stage: Nash Equilibrium Taxes (cont.)
First-order condition:
0)1(
])()[())((
21
etiiiiidt
dY
jj
ij i
dtdX
iiidtdX
dtdY
i
ii
j
i
i
i
i
i
i
Ykded
pXYpp
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1st stage: Nash Equilibrium Taxes (cont.)
The symmetric Nash equilibrium tax is
Compared with the efficient tax
])[(
1
jjj
ijii
iii
edpe
kdt
eedp
kdt
ij
ii
ij
ii
])([2
])(1[
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Nash Equilibrium Tax vs. Efficiency Tax under the symmetric case > 0 and
t(NE) > t*
< 0 and
t(NE) < t*
])([ deep jj
iiii kdi
jii 1
])([ deep jj
iiii kdi
jii 1
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Conclusion
Higher technological capability (i.e. k) on abatement induces higher equilibrium output.
when emission taxes can yield more welfare benefit from reduced pollution damages than the welfare loss of profit reduction , if the country’s additional pollution caused by home production (i.e. ) is greater/less than the cost of domestic firms’ effort on abatement innovation (i.e. ), then government will have the incentive to set a low/high emission tax rate (lower/higher than the efficient level).
ij
ii
kd1
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Conclusion (cont.)
when emission taxes yield less welfare benefit from reduced pollution damages than the welfare loss of profit reduction, if the country’s additional pollution caused by home production (i.e. ) is less than the cost of domestic firms’ effort on abatement innovation (i.e. ), then government will have the incentive to set a low emission tax rate (lower than the efficient level).
ij
ii
kd1
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Conclusion (cont.)
And when the country’s additional pollution caused by home production is equal to the cost of domestic firms’ effort on abatement innovation, (i.e. ) Nash equilibrium emission tax is equal to the efficient tax level.
kdij
ii 1