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Optimal environmental border adjustments under the General Agreement on Tariffs and Trade

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  • Edward J. Balistreri

    ()
    (Division of Economics and Business, Colorado School of Mines)

  • Daniel T. Kaffine

    ()
    (Department of Economics, University of Colorado, at Boulder)

  • Hidemichi Yonezawa

    ()
    (Institute of the Environment, University of Ottawa)

Abstract

We consider the legal and economic context for border adjustments that might be used to augment subglobal carbon abatement. Following Markusen (1975) we establish optimal border policy in the presence of cross-border environmental damages. The optimal border policy includes a strategic component that is inconsistent with legal commitments under the General Agreement on Tariffs and Trade (GATT). Incorporating GATT compliance into the theory indicates an optimal border adjustment that taxes the carbon content of trade below the domestic carbon price. This theoretic finding is in contrast to the standard advice to impose the domestic carbon price on the carbon content of trade. The wedge between the domestic carbon price and the optimal environmental border adjustment occurs in general equilibrium because border adjustments inadvertently drive up consumption of emissions intensive goods in unregulated regions. We conclude our analysis with numeric simulations of Annex-I carbon policy. We find an optimal import tariff on the carbon content of aluminum that is on the order of 50\% of the domestic carbon price. Countries that impose border carbon adjustments at the domestic carbon price will be extracting rents from unregulated regions at the expense of efficient environmental policy and consistency with international law.

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File URL: http://econbus.mines.edu/working-papers/wp201403.pdf
File Function: First version, 2014
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Bibliographic Info

Paper provided by Colorado School of Mines, Division of Economics and Business in its series Working Papers with number 2014-03.

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Length: 34 pages
Date of creation: Feb 2014
Date of revision:
Handle: RePEc:mns:wpaper:wp201403

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Keywords: climate policy; border tax adjustments; carbon leakage; trade and carbon taxes;

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