The impacts of carbon tariffs on international trade flows and carbon emissions: An analysis integrating trade elasticities with an application to US-China trade

Abstract

Carbon tariffs have been widely studied as a prominent climate policy in terms of their influences on the economy and the environment. However, previous studies of their effectiveness did not incorporate into the analysis of some key factors, including, notably, trade elasticities. This paper aims at reducing the gap between trade economics and environment studies by integrating trade elasticities into the analysis of carbon tariffs' impacts on trade flows and carbon emissions embodied in exports. We start by adopting the gravity trade model and constructing a panel data set of 63 countries from 2005 to 2015 to calculate the trade elasticities across 13 industries. With a simple model that translates carbon tariffs into tariffs, we evaluate the cross-country and cross-industry impacts of carbon tariffs. A model to forecast the effect of carbon tariffs on China-US trade under different scenarios is also provided. We discover that industries' trade elasticities and carbon intensities play an essential role in determining carbon tariffs' impacts. Furthermore, our estimations show the threshold carbon tariffs for the 13 industries with an average of $42/tCO2. We found out that if the U.S. stopped importing from China by replacing all Chinese exports with its domestic productions, it would emit 88.8% fewer carbon emissions than China does, which would contribute to a 0.65% decrease in world carbon emissions. Other scenarios of replacing all Chinese exports with Canadian, Japanese, or Mexican exports show similar results. This paper illuminates the critical importance of incorporating trade elasticities when designing carbon tariffs.