ERE week 4c - Is free trade good for the environment?

Effects of trade liberalization

Direct effect: Composition

• Country specialises according to comparative advantage

Indirect (growth) effect

• Liberalisation leads to economic growth

NAFTA example - effects

People thought that USA firms would move to Mexico where less stringent labour and environmental laws → reduce environmental quality in Mexico

Composition effect

• Mexico CA in agriculture and labour-intensive manufacturing (clean sectors)

Growth effect

• Regress pollution on GDP for several pollutants and countries

NAFTA example - Environment Kuznet curve

Max point (I*) at $5000 - GDP per capita of Mexico at time

• So wouldn’t affect Air pollution that much

Paper found existing trends remained post NAFTA agreement

·      Pollutants that were already decreasing before kept decreasing

·      Critical of Environmental Kuznets curve

Income pollution relation - effects

Scale effect - More production = more pollution

Composition effect - stages of development countries go through

• Primary Clean → Secondary Dirty → tertiary clean

• As rich countries become tertiary → dirty industry moved to poorer nations

  • Developing nations have no one to ship it to

Technique effect - As income grows, production becomes cleaner

• Enviro quality is a normal good

Is free trade good for the environment example - Assumptions

Small open economy – cant affect World p

Perfect competition

2 goods

• X - K intensive& dirty &   Y - L intensive & clean

 Domestic relative p of X      p = βp_w

β - importance of frictions (Trade & Transport costs + NTBs)

Is free trade good for the environment example - Assumptions β

For an exporter of X:  β < 1

• Domestic p < world p Due to trade costs

 

For an importer of X:  β > 1

• Domestic p > world p Due to trade costs

With trade liberalisation β gets closer to 1 – trade costs fall (domestic p gets closer to world p)

Is free trade good for the environment example - Decomposition of pollution equation

Is free trade good for the environment example - using trade liberalisation effects equation

Direct effect (trade-induced composition effect): φ

• countries that specialise in X become dirtier

Indirect effects

• Scale: More production S increases pollution

• Technique: e declines with income

Which countries specialise in dirty goods?

Countries with lenient environmental policy

• Poor countries

• Pollution haven hypothesis

Capital intensive nations (Polluting industries are K-intensive)

• Rich countries

• Factor endowments hypothesis

Is free trade good for the environment example - empirical evidence

Scale effect

• For every 1% rise in production – urban SO2 concentration rise by 0.25-0.4%

Technique effect

• 1% increase in income = -1.15% → -1.6%

  • Lagged income used as effects take time

Composition effect

• 1% rise in trade intensity = -0.4% -> -0.9%

Economic growth reduces pollution - Technique effect dominates scale effect (negative effect of trade on pollution) → FT good

Factor endowment vs pollution haven

Positive & significant relation - income and trade intensity elasticity

Factor endowment effect dominates pollution haven effect

• net effect is small

US manufacturing emission - Overall

Not Scale effect - output grew

Not technique effect - Looking at products not industry

Composition effect - More cleaner products being produced

• The more products you distinguish, the larger the role of composition relative to technique

US manufacturing emission - Which effect

Emission reduction almost completely due to technique effect

• Production methods have become cleaner

Output and pollution equation

More pollution = more possible produced per L

• Less L dedicated to abatement

• More L to use on production (pollution is FofP)

Output and pollution equation - sectoral a_s

a_s - implied pollution tax payment share of production costs

Assume tax rate equal across sectors

• a_s proportional to emissions / $ input cost

Output and pollution equation - sectoral a_s (most polluting down)

Historic shocks affecting secondary sector (emissions and output)

Foreign competitiveness

• Foreign productivity, trade costs, environmental regulation

US competitiveness

• US productivity, trade costs

US environmental regulation (main driver)

• Implied NOx tax nearly doubled from 1990 to 2008

Sectoral expenditure shares

• how much consumers spend on different products

Growth in Chinese exports had a large effect on US manufacturing employment, why not on emissions?

• Mostly low skilled sectors - not dirty

• Did not affect composition much

• Effect on output & value added smaller than on employment

• US import penetration ratio small (<10%)

• Growth in US competitiveness reduced emission intensity, but also increased output

• US environmental regulation became stricter (1990–2008)