Designing tax plans in international environmental agreements with heterogeneous benefits

We present an analysis of carbon abatement regulation through a self-enforcing international environmental agreement (IEA) model featuring two types of countries with dissimilar abatement benefits. The IEA involves a tax plan function that allocates an emission tax rate to each type of country under every coalition of voluntary signatories. An efficient tax plan is one that maximizes social welfare under a stable coalition, while an optimal tax plan maximizes the average payoff of a stable coalition. We demonstrate that an efficient or optimal tax plan always exists, and that the corresponding value of social welfare or average coalition payoff is greater than that under certain traditional tax systems. If the benefit heterogeneity between the two types of countries is sufficiently small, full cooperation and social optimum can be achieved or approximated through an efficient or optimal plan. Conversely, a high degree of heterogeneity will result in a relatively small coalition and an inefficient outcome, regardless of the tax plan employed.