Impact of carbon tariffs on multinational firm’s sourcing strategies

In recent years, the global movement towards achieving carbon neutrality has gained momentum, prompting the European Union to propose the implementation of carbon tariffs on high-carbon products imported from emerging economies. This policy is fundamentally transforming the global sourcing strategies employed by multinational firms (MNFs). However, existing literature has not systematically investigated this issue. To address this research gap, we develop a game-theoretic model that illustrates the interactions between a multinational firm (MNF) and two distinct manufacturers: a domestic manufacturer (DM) that offers a reliable supply but exhibits a cost disadvantage, and an overseas manufacturer (OM) that confronts yield uncertainty and high carbon emissions, prompting investments in carbon emission reduction. By analyzing this model, we obtain the following results. First, dual sourcing is not always advantageous to MNF. When DM’s production cost is high (low), MNF source from OM (DM) only from a single source. Second, an escalation in carbon tariff doesn’t inherently lead to an increase in OM’s wholesale price. When the carbon emission reduction efficiency is relatively low, OM may strategically reduce its own wholesale price to maintain market competitiveness. Third, yield uncertainty compels MNF to adopt dual sourcing to diversify supply risk, while for OM, when its carbon emission reduction investment is less (more) efficient, as the yield uncertainty escalates, OM’s marginal profit increases (decreases). Finally, while carbon tariffs generally promote environmental protection, their effects on social welfare in the home country of MNF are not always positive.