EQUILIBRIUM POLLUTION TAXES IN OPEN ECONOMIES WITH IMPERFECT COMPETITION

This paper argues that imperfect competition in global markets creates a strategic interaction between governments that can lead to the inef ficient distortion of pollution taxes. This distortion can be decompos ed into a rent capture effect and a pollution-shifting effect. The ren t capture effect lowers equilibrium taxes as each country attempts to gain a competitive advantage over its trading partner and thereby capt ure foreign rent through net exports. The pollution-shifting effect ra ises equilibrium taxes as each country attempts to transfer production and its associated pollution to the other country. This effect vanish es if pollution is perfectly transboundary because shifted pollution c auses as much damage to the domestic environment as does domestic poll ution. The net effect on symmetric equilibrium taxes is negative, exce pt in the special case of perfect competition with no transboundary po llution. In this case the two effects are mutually offsetting and the Nash equilibrium is efficient. When pollution is at least partially tr ansboundary there also arises the usual transboundary externality and this reinforces the negative net strategic effect, giving rise to equi librium taxes that are lower than what is globally efficient. (C) 1994 Academic Press, Inc.