This chapter develops an endogenous growth model featuring an environmental externality, abatement R&D, and market imperfections. The salient trait of the model is that it is able to deal with three distinct regimes including public abatement, private abatement without tax recycling, and private abatement with tax recycling.
Some main findings are obtained from our simulation analysis. First, there exists a trade-off between economic growth and environmental quality in a “regime selection”
sense. Second, the benefit arising from the private conduct of abatement becomes larger the greater the degree of the firms’ monopoly power. This potentially implies that antitrust policies might in some way reduce growth and welfare in a private
abatement R&D model. Third, if the government recycles the environmental tax revenues to subsidize private abatement R&D, the growth rate and welfare will almost be higher than those in any other regimes. Fourth, the beneficial effects of public abatement policies will be eroded when government spending on transfer payments increases.
The effects of environmental tax policies are also investigatedr. We show that a rise in the environmental tax could possibly simultaneously reduce pollution and stimulate growth if the intermediate firms import polluting inputs from abroad at a fixed price. However, care should be taken regarding the implications because such a desirable result is in part due to the rigidity of the polluting input price. If the import price can be adjusted endogenously, the above result should be modified as well.
Although our model indicates that an environmental tax policy is beneficial to economic growth, we would like to mention that this result should be accepted with some caution. In fact, our main intention is not to emphasize the beneficial effect of an environmental tax on economic growth, but to highlight the importance of distinct pricing between pollution and polluting inputs. Doing so will be helpful for us to clarify the two channels through which an environmental tax influences the long-term growth rate, i.e., the (negative) traditional productivity effect and the (positive) Bovenberg-Smulders environmental quality effect.
Some extensions could be considered in future research. First, R&D firms can extract all their buyers’ profit via their unilateral determination of the license fee. It would be interesting to consider the case where the license fee for abatement knowledge is decided by a Nash-bargaining process between R&D firms and intermediate firms instead of by R&D firms only. Second, the price of polluting inputs is not internalized in this analysis. It is natural to extend our model by
proposing a channel to endogenize the polluting input price. For instance, we can introduce an additional domestic energy sector, or assume a nonlinear adjustment cost of polluting inputs. These extensions inevitably complicate the model, but they deserve future study.
Appendix
This appendix provides a detailed derivation of (2.34) and (2.36) in the main text.
In the PA regime, by substituting the intermediate firm’s first-order conditions reported in (2.10)-(2.12) into the profit function, we obtain:
[
θ α β θ α ε]
ε επ = 1−(1− )( + )−(1− )(1− )
Y
−(1− )mHP
. (A2.1) Based ong
=H
/H
and (2.29), we haveH
/H
=π/q
HH
. Then, putting (2.12), (2.17), and (2.20) andH
/H
=π/q
HH
together, we can derive:δπω
=
=
H g H
. (A2.2)
Substituting (A2.1) into (A2.2) yields:
[ ]
ε ω β δ
θ θ α ε
β α θ
δ mHP
εL
g
y( 1 )
) 1 (
) 1 )(
1 ( ) )(
1 (
1 − −
− − − −
+
−
= −
. (A2.3)By substituting the relevant variables along the balanced growth equilibrium into (A2.3) and reminding
h
=H
/K
andw
=ω/K
, we can obtain (2.34) in the main text.In the PAR regime, from (2.17), (2.30) and (2.31) we have
g
=δπ /(1−s
)ω. Similar to the derivation of (2.34) in the PA regime, we can obtain (2.36) in the main text.References
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Figure 2.1. The effect of monopoly power
0.30 0.31 0.32 0.33 0.34 0.35 0.36
0.00 0.01 0.02 0.03 0.04 0.05
monopoly power
gr ow th ra te
0.30 0.31 0.32 0.33 0.34 0.35 0.36
-100 -80 -60 -40 -20
monopoly power
W el fa re
PAR: GA: PA:
Figure 2.2. The effect of increasing other government spending
Figure 2.3. The effect of an environmental tax ( γ = 0 . 77 )
Figure 2.4. The effect of an environmental tax ( γ = 0 )
Chapter III
___________________________________________________________
Intergenerational Welfare and Pareto-improving Environmental Policies
3.1. Introduction
One important feature of environmental issues is that the degradation of the environment requires a period of time. The existing generations who create pollution today may not live long enough to bear the consequences of environmental deterioration in the future. Environmental policies, therefore, should be responsible for internalizing both intratemporal and intertemporal environmental externalities (Heijdra et al., 2006). As heterogeneous generations are considered, the following questions naturally arise: What is the environmental policy impact on the welfare of different generations? Does an intergenerational welfare conflict emerge from raising an environmental tax? Is it possible for an environmental tax to be Pareto-improving (i.e., to improve the welfare of all generations)? This makes an attempt to deal with these questions.
To this end, we set up an overlapping generations (OLG) growth model building on the work proposed by Samuelson (1958) and Diamond (1965), and use it to examine the welfare effects of an environmental tax on different generations. Based on this OLG growth model, several main results emerge from our analysis. First, the pattern whereby tax revenues are distributed to either the young generation or the elderly generation plays an important role in determining intergenerational welfare and economic growth. Second, the growth effect of environmental policies is governed by evaluating the welfare changes of the generations born in the endless future. Third, the diverse environmental policy effects may emerge from the
environmental utility of the existing generations. Finally, we show that a
Pareto-improving environmental policy is achievable in the presence of positive environmental production externalities.Two studies closely related to the present chapter are Bovenberg and Heijdra (1998) and Heijdra et al. (2006), who build on the OLG model proposed by Yaari (1965) and Blanchard (1985) and study the intergenerational welfare effect of an environmental tax. It is therefore worthwhile discussing the major differences between our analysis and theirs. First, they show that, in response to a rise in the environmental tax rate, the returns of productive factors decline so that the existing
older
generations who have accumulated a huge amount of physical capital must accordingly suffer from an immense non-environmental loss. The newborn generations, on the contrary, have not yet accumulated wealth and thus enjoy a welfare gain from the distributed tax revenues. This result is the basic spirit of the Yaari-Blanchard OLG model in that the older generations are inevitably the richer generations (by accumulating more wealth). Based on this feature, in their analysis the environmental tax is essentially more harmful to the richer generations than to theolder generations. To escape from such a rigid and somewhat unrealistic
intergenerational linkage, in the present we instead use the Samuelson-Diamond OLG model to deal with the intergenerational welfare distribution effect of the environmental tax.Second, the Yaari-Blanchard OLG model assumes that all existing generations face the same mortality and thus expect the same remaining life time (the so-called
“perpetually youth” assumption). Based on this distinctive trait, as the environmental tax rises, the changes in the environmental utility of all existing generations －no matter how old or young, are entirely equivalent. In reality, however, the existing old generation who may have no further remaining life time can
hardly wait for the reaping of environmental fruits. From this perspective, raising the environmental tax should affect only the (environmental) welfare of the existing young generation rather than of all existing generations. While the Yaari-Blanchard OLG model can not reflect such an intergenerational welfare contradiction, our analysis can escape from this drawback and provide an insight for this issue.
Moreover, in Bovenberg and Heijdra (1998) and Heijdra et al. (2006) featured with Yaari-Blanchard OLG, the asset stock of the older generations is greater than that of the younger generations. Then, in response to a rise in the environmental tax rate, the older generations must bear a higher part of the environmental tax burden and their welfare level is certainly lowered. Their result essentially stands in line with John and Pecchenino (1994), who argue that with no private maintenance investment, an environmental policy can hardly be Pareto-improving.15 Our analysis instead possesses an advantage in that it assigns a specific proportion of government transfers to each generation. In particular, we introduce the positive environmental externality in production, and hence are able to show that, even in a quite reasonable way to distribute the tax revenues, an environmental tax could be Pareto-improving.
This chapter is also related to the strand of the literature on the linkage between environmental policies and endogenous economic growth. Most of these studies confine their analysis to the model with the infinitely-lived household (e.g., Bovenberg and Smulders (1995), Mohtadi (1996), Smulders and Gradus (1996), Byrne (1997), Bovenberg and de Mooij (1997), Stokey (1998), Grimaud (1999), Nakada (2004), Itaya (2008), Fullerton and Kim (2008)).16 Others deal with an OLG model either based on the Yaari-Blanchard framework (Pautrel, 2008; 2009) or on the
15 However, Bovenberg and Heijdra (1998) demonstrate that if the government can implement an intergenerational redistribution policy (public debt) to allow the future generations who enjoy most of the environmental gain to compensate the existing generations, then it is possible for all generations to benefit from the environmental tax.
16 See Xepapadeas (2005) for a survey of this literature.
Samuelson-Diamond framework (John and Pecchenino (1994), John et al. (1995), Ono (2003a; 2003b), Jouvet et al. (2010), Mariani et al. (2010)). Within these existing studies, the model this develops is more close to Ono (2003a; 2003b).
However, compared with Ono (2003a; 2003b), this has the following major distinctions. First, we introduce the positive environmental externality in the production function. Second, we do not consider private investment in environmental maintenance.17 Lastly, Ono (2003a; 2003b) do not discuss the possibility of Pareto-improving environmental policy, which is our main focus in this . When heterogeneous agents are taken into consideration, how the environmental tax revenues are distributed between generations plays an important role in determining the tax effect on growth.18 More specifically, the transfer of income to the young generation is divided into consumption and saving, while the transfer of income to the old generation is totally expended on consumption. Given the fact that saving is the main driving force for economic growth, the transfer of income received by the young is more beneficial to growth than that received by the old. Our model captures this feature by assuming that the government can assign a different portion of transfers distributed to the different generations. It is found that, as we expected, the larger the proportion of government transfers distributed to the young generation, the more likely it is that the environmental tax will have a positive effect on economic growth.
17 In their models, the environmental externalities are mitigated since young agents can invest in environmental maintenance in order to enjoy a better environmental quality when they are old. The intergenerational welfare conflict is also mitigated since investment in environmental capital (maintenance) serves as a bequest to future generations. However, given the fact that each individual is insignificantly small in the world, our assumes that no individual takes into consideration the influence that his/her decision has on the environment, and hence will not invest in any environmental maintenance activities.
18 For example, Belan et al. (1998) and Gyárfás and Marquardt (2001) find that the types of social security system financed by a wage income tax can affect the long-term growth rate. These studies, however, do not deal with the issue of the environment. Another related paper is Gutierrez (2008), who considers environmental tax design to achieve the optimal allocation in a non-growing overlapping generations model in which pollution arises from production.
The remainder of this chapter is organized as follows. Section 3.2 describes the economy. Section 3.3 characterizes the equilibrium and the balanced-growth path.
Section 3.4 analytically investigates the growth and welfare effects of an environmental tax in the absence of a positive environmental production externality.
Section 3.5 examines the possibilities of a Pareto-improving environmental policy with or without the positive production externality via numerical simulation. Section 3.6 concludes.