Abstract
The inelastic supply of fossil energy in the international input market precipitates failure of Pigouvian taxation consequent to competition among governments, as imposition of an environmental tax increases (decreases) the marginal cost of domestic (foreign) firms. This paper demonstrates that unless the supply of fossil energy is perfectly elastic, cap-and-trade outperforms Pigouvian taxation in terms of the domestic welfare of adopting countries, and global welfare is maximized when all countries implement the alternative scheme. We further demonstrate that the linkage of permit markets, when the energy supply is sufficiently inelastic, improves global welfare.
Highlights
Being aware of the most serious threat to the sustainability of human being and society, Global Warming and Climate Change, many scientists and policy makers make enormous efforts to find the reason of, and remedy for, the threat
Motivated by the failure of Pigouvian taxation, this paper develops a simple three-stage decision game between two symmetric non oil-producing countries to evaluate the relative performance of the alternative scheme, “cap-and-trade” together. (We borrow the basic structure of the game from Sim and Lin [7], who analyze a similar issue in the presence of cross border pollution.)
Motivated by the substantial volume of greenhouse gases emitted in the burning of fossil fuels, this paper analyzes the performance of the Pigouvian taxation and cap-and-trade environmental regulation instruments in a globalized setting in which firms in each country purchase fossil energies from an international input market and sell final goods in an integrated output market
Summary
Being aware of the (probably) most serious threat to the sustainability of human being and society, Global Warming and Climate Change, many scientists and policy makers make enormous efforts to find the reason of, and remedy for, the threat. Consuming fossil fuels during the production process inevitably generates pollutants (greenhouse gas), which creates environmental damage and lowers domestic consumer surplus This market failure justifies government intervention, which can be implemented either using Pigouvian taxation or cap-and-trade schemes. (Hoel [19] analyzes the transboundary pollution case with no explicit consideration of fossil fuel input He concludes that each country choosing emission trading scheme holds as one of the Nash equilibria, while the present paper shows that it is a strictly dominant strategy unless the supply of fossil energy is perfectly elastic). The present paper contributes to the literature by allowing unilateral deviation of an individual country and providing a detailed analysis of each (fossil fuel) importing country’s strategy It is because the latter scheme neutralizes the negative influence of raising the rival country’s marginal cost strategy through the international price of fossil energy, which improves domestic welfare in a globalized setting.
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