The Choice of Environmental Policy Instruments and Strategic International Trade

Abstract

In this paper I examine the question of the choice of environmental policy instruments in the context of a model of strategic international trade between countries, and I show that in such a model there is a preference for the use of standards rather than taxes as policy instruments. The paper employs a simple model of two countries who are the sole producers of a commodity sold on the world market. Production uses an input which is directly related to the emission of a pollutant, and each country has a fixed target for the emissions level it wishes to achieve. If trade is modelled as a one—shot Cournot equilibrium, the countries are indifferent about policy choice. If trade is modelled as a Stackelberg equilibrium, then both countries are better off (in terms of producer surplus) if the follower uses standards. Finally, if trade is modelled as a two— stage Cournot game in capacity and output then the choice of standards by both countries is a Nash equilibrium, and Pareto dominates the choice of taxes by both countries. These results arise from the superior commitment properties of standards.