Fighting carbon leakage through consumption-based carbon emissions policies: Empirical analysis based on the World Trade Model with Bilateral Trades

Policy initiatives towards reduction of CO2 emissions implemented so far are grounded on the so-called Production-Based paradigm: this approach allocates responsibility of emissions to countries that directly caused such emissions, without taking into account all the indirect contributions to CO2 emissions caused outside country’s borders, eventually leading to the so-called carbon leakage phenomenon. In this paper, the alternative Consumption-Based approach is proposed, and its effectiveness assessed: according to this approach, policy initiatives allocates responsibility for CO2 emissions proportionally to the CO2 emissions embedded in goods and services required by industries as inputs for production. Global environmental and economic consequences of carbon emissions reduction policies, applied at the European level based on both Production- and Consumption-Based paradigms, are comparatively assessed based on the World Trade Model with Bilateral Trades. Results of this study suggest that defining CO2 emissions policies based on a Consumption-Based paradigm seems to be the most effective way to reduce the global carbon emissions, avoiding the carbon leakage phenomenon which may occur in economies regulated by Production-Based policies. Indeed, an imposed reduction in CO2 emissions embedded in EU final demand through a Consumption-Based Accounting policy would result in a global CO2 emissions reduction up to almost 1.2 Gton. On the other hand, an imposed reduction in direct EU CO2 emissions according to a PBA approach would result in an overall increase in global carbon emissions up to almost 0.8 Gton.