II. General equilibrium approaches—theory

1. II-D II. General equilibrium approaches—theory

2. II-D Trade and environment policies • Analytically, we want to be able to identify socially optimal policies in economies with environmental problems • The following model does so for an economy with initial distortions due to trade policy and pollution • What are the optimal trade and environmental policies in such an economy?

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10. II-D Insights -- summary • In general equilibrium, there are both direct and indirect effects to be accounted for. • Trade and environmental policies may interact. • A tariff has direct welfare effects, and indirect effects through pollution. • No single policy change will necessarily improve welfare. • (Theory of the second best) • Thus trade restrictions may serve as instruments of environmental policy. • Free trade is not the same as laisser-faire.

11. II-D Some complications… • Distribution of income: what if pollution taxes have greatest impact on the poorest? • Non-traded goods and endogenous factor supplies • There may be env. irreversibilities. • Property rights/open access to natural resources, or free disposal of pollutants. • Spatial variation may be important. • More detailed models are more complex! • Preceding results form a ‘benchmark’ when models cannot easily be solved for analytical results.

12. II-D GE insights for environmental analysis • In open economies, factor and product markets link all sectors. • Indirect as well as direct effects of policies, price shocks, etc., must be measured. • When people derive utility from the environment, ‘true’ welfare is hard to measure. • Most people are willing to accept some degree of environmental damage in return for economic growth.