Uniform emission taxes, abatement, and spatial disparities

Abstract

This paper examines how a commitment to a common tax on greenhouse gas (GHG) emissions affects spatial distribution of production and welfare between countries. To focus on the long‐term effects of firm relocation, the paper employs a two‐country model of monopolistic competition with a variable abatement technology. In the model, the elasticity of substitution between GHG emissions and the conventional input is a key parameter. If the elasticity of substitution is smaller than one (in the substitutable area), the relative number of firms and the relative welfare in the large country monotonically increase with uniform tax rates. Meanwhile, if the elasticity of substitution is larger than one, they both follow inverted U‐shaped curves in response to tax rates. Nevertheless, for any level of taxes, they both are necessarily higher than those in the case without taxes. This suggests that uniform emission taxes widen international disparities of firm location and welfare.