On the existence of efficient, individually rational, and fair environmental agreements

Abstract

Suppose a group of agents are engaged in economic activity that produces emissions of pollutants. Emissions yield private benefits and impose negative externalities. The status-quo is assumed to be inefficient so that the agents are willing to negotiate an improved allocation of emissions. In this context, we are interested in allocations satisfying Pareto efficiency, individual rationality, and a principle of fairness that generalizes concepts that are encountered in practice. While the existence of such allocations is not guaranteed, we derive a necessary and sufficient condition for it. This condition is succinct and its verification is computationally tractable. Uniqueness will generally not hold, and so we describe a procedure that generates allocations with the desired properties and discuss ways of selecting from them. We apply our model to a setting of climate-change policy based on Nordhaus (2015). Our results show that it is possible to achieve a large reduction in global CO2 emissions that enhances every region’s welfare, while at the same time achieving Pareto efficiency and respecting norms of fairness.