Policy linkages, country size, and international capital distribution

Abstract

We investigate the linkage between environmental taxes and import tariffs between two countries, which differ in their capital endowments and the number of consumers. We consider the consumption-generated pollution in an intra-industry trade model with monopolistically competitive industries, and focus on the regime with the environmental taxes only and that with environmental taxes and tariffs. We find that imposing tariffs lowers the environmental taxes, leading to greater global pollution. Another finding is that when tariffs are infeasible, the capital-abundant country charges a relatively low environmental tax rate; when tariffs are available, it adopts a relatively high tax rate. In addition, we investigate the effects of the international distribution of capital and consumers on the global pollution. We also extend the model to investigate the policy-making when the distribution of capital is endogenously determined.