North-South Capital Movement and Global Environment

The paper re-examines the hypothesis: free movement of capital from capital-rich Northern" to capital-poor Southern" countries worsens the global environment. Assuming that national governments regulate the pollution level optimally, by trading-o? the marginal beneit of pollution against its marginal cost, it is found that, North is generally a larger polluter. Also, a zero to positive level of foreign direct investment worsens the global environment but a higher level of investment is not necessarily associated with more global pollution. As countries move from non-cooperation to cooperation in setting environment policies, world environment quality improves, and there is more foreign direct investment. With foreign direct investment the welfare implications for the North are not clear and South unambiguously gains. These results are derived assuming environment to be a neutral good. When environment is a normal good, a move from autarky to non-cooperative FDI equilibrium entails that even South may lose in welfare as the North, and in absolute terms, North will pollute less than the South. Further, in general, there is little rationale for harmonization of environmental policies across countries.