Abstract
This paper investigates the possibility of a ‘race to the bottom,’ under which intergovernmental competition for mobile capital leads to inefficiently lax environmental standards. A model is constructed in which independent welfare-maximizing governments regulate pollution emissions from production activities, while taxing residential labor and mobile capital to finance public good expenditures. A race is shown to exist in the sense that a ‘central planner’ could improve welfare in every country by requiring that each government tighten its environmental standards. The analysis also shows that the tax-financed public good is underprovided in equilibrium, but it is argued that this problem may be less severe than the race-to-the-bottom problem.
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