Environmental regulation and international trade - Springer

More documents

Recommendations

Info

$Accessing Symbolic Math Toolbox Functionality$

66 EFTICHIOS SOPHOCLES SARTZETAKIS AND CHRISTOS CONSTANTATOS assumption of identical environmental standards between countries requires that the number of permits issued by the regulator in country S is equal to the maximum allowable units of emission in country N, i.e., ~v = ~.s. The regulator distributes the permits free of charge to the firms, with firm i receiving E~/= Es/2 permits. After the initial distribution of permits, firms can freely trade permits. With the introduction of tradeable permits, another market is added to the model. This market can either be perfectly or imperfectly competitive. We assume here that the pollutant in question is emitted by many industries producing goods with zero cross-price elasticity of demand and that the distribution of high and low abatement cost firms is similar across industries. Thus, while firms are Cournot players in the product market, they are price takers in the emission permits market. Firm i's net demand for permits is NE~/= E//- ES/2, where E~/= E~/- A s is firm i's demand for permits; in equilibrium, ]E2=1NE~i=O. Firm i's profit maximization problem is max n S = (a - bQS-SQN) qSi-s- cqi - a~ ss qi - ei (~SqS~ - P ~ (r - c~ S) qS _~__2_1 s s i qi ,~i (5) where P~ is the price of permits. Setting ~/S/~o~S = 0 implies 10 pE = d + 2eio~Sq S, so that each firm sells or buys permits until its marginal cost of an extra permit is equal to its marginal cost of abatement. Firm i's output as a function of the permit price and North' s output is qS= a - c - rP e 8 3b - 3-~ QN. (6) Aggregating output over i, we obtain total output in South as a function of North's output, Qs 2(a-c-rP E) 28 = 3b - 3-6 QN. (7) From (A. 14), it is clear that el > e2 implies A s < A s. Therefore, the lower abatement cost firm engages in a relatively higher level of abatement and sells its excess permits to the high abatement cost firm. Since at the equilibrium the marginal abatement cost of both firms equals pC, the introduction of environmental regulation leaves relative market shares of the firms in country S unchanged, so that ~/QS=qS/QS. 5. Trade Equilibrium with Regulation Solving simultaneously equations (4) and (7), we obtain QN, Qs as functions of the equilibrium values of L1, ~2, and pE, 10 See Appendix 2 for details on the maximization of (5).
ENVIRONMENTAL REGULATION AND INTERNATIONAL TRADE 67 QN = 2(3b - 28) (a - c) - 3rb(~, 1 + ~'2) + 4rSPE (3b - 2~5) (3b + i5) (8) and Qs = 2(3b - 25) (a - c) + 2r5(~, 1 + L2) - 6rbP ~ (3b - 25) (3b + i5) (9) From the above expressions, we can see that QN+QS-2Q=r(45-6b)[Pe + (~,1 + ~,2)/2] < 0, since b > 5. Thus, total output decreases after the introduction of environmental regulation. This should not come as a surprise, as the regulation imposes an additional cost upon the firms. What is crucial in our analysis is to determine how the burden of output reduction is distributed among countries. To that end, we need first to establish a relation between the equilibrium price of permits and the values of the Lagrange multipliers. Under the assumption that both countries set the same emissions ceiling, ~r = ~7 S, we have rQ N - A N = rQ S - A S, where A v = Z2=1 A v, v = N,S. Substituting into this condition the values of QN, Qs, A N and A S from (8), (9), (A.5), and (A.14), respectively, we derive the following relationship between the competitive permit price and the Lagrange multipliers: pE = (3b - 25) (3b + 2fi) (el~, 2 -I- e2~,l) + 2ele2r2(3b + 45) (~1 + ~'2) (10) 4ele2r2(3b + 45) + (3b - 25) (3b + 28) (e 1 + e2) Setting the RHS of (10) smaller than the average of L's and cross-multiplying, we obtain (3b - 25) (3b + 25) (el - e2) (L2 - ~,1) < 0. Since b > 5, a necessary and sufficient condition for pe < (L1 + ~,2)/2 is that (el - e2) (~,2 - ~,1) < 0. The LHS of this expression can never be positive, since el > e2 implies ~,I > ~,2; it cannot be zero either, unless both firms in the N country possess the same abatement technology. Thus, in the free-trade regulated equilibrium, if el ~e e2 then the price of emission permits in country S is lower than the average of the Lagrange multipliers in country N, i.e., e 1 #: e 2 pE < (~1 + ~2)/2. This result reflects the advantage of a TEP regulation in distributing abatement effort more efficiently between firms. Indeed, since pe > ~,2 (see Appendix 2 for the proof), it follows from (A.5) and (A.14) that As = (pC _ d)/2e2 > (~,2 - d)/2e2 =A N. Thus, in South the low abatement cost firm undertakes a greater amount of abatement activity than its counterpart in country N. By encouraging higher abatement by the low cost firm, a TEP regulation results in a more efficient allocation of abatement effort. This advantage vanishes when technologies are similar and its importance is directly related to the technological heterogeneity within the country that implements a CAC regulation. Turning to the question of changes in market shares after the introduction of regulation, recall first that all firms produce similar outputs in the pre-regulation equilibrium. Taking the difference between (8) and (9) and rearranging terms, we can show that the difference Qs_ QN is proportional to the expression r(25+ 3b) (~1 +L2- 2PE) > 0, since el r e2 Pe < (~,1 + ~2)/2. Thus, in the presence of diverse abatement technologies
Page 1 and 2: Journal of Regulatory Economics; 8:
Page 3 and 4: ENVIRONMENTAL REGULATION AND INTERN
Page 5: ENVIRONMENTAL REGULATION AND INTERN

Environmental regulation and international trade - Springer

Create successful ePaper yourself

Delete template?

Save as template?