Diapositiva 1

1
International Policy Making
Lecture 18 Policy Instruments Magnus
Hennlock Department of Economics and
Statistics Gothenburg University
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International Policy Making

• Literature
• Sterner Ch 17 (p 203-211), Baumol Oates Ch 15
• Barrett, S. (1994), Strategic Environmental
  Policy and International Trade, Journal of
  Public Economics 54 325-38.
• Chichilnisky, G, North South Trade and the
  Global Environment, AER, Sept 1994.
• Oates, W.E. and R.M. Schwab (1988), Economic
  Competition Among Jurisdictions Efficiency
  Enhancing or Distortion Inducing? Journal of
  Public Economics 35(3) 333-54

3
Added Features of International Policy Making

• International problems
• Several sovereign policymakers
• International externalities / transboundary
  pollution
• Heterogeneous emission generation (e.g. fossil
  intensity)
• Heterogeneous damage costs between countries
• Often long term problem
• E.g. overfishing in international water, climate
  change
• Annual flows (e.g. harvest or CO2 emissions) can
  be influenced by policy rather than the stock
  (fish or CO2 stock)
• Benefits and costs are intergenerational

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Theoretical frameworks?

• No supranational policymaker exists but many
  sovereign policymakers in the presence of
  international externalities
• game theory rather than one social welfare max
  needed to find possible policy instruments and
  standards
• If long term effects
• dynamic optimization
• Uncertainty in global issues
• risk analysis, stochastic optimization

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Which Policy Instruments?

• In principle the same instruments that can be
  used by a single policymaker (taxes, permits,
  subsidies, direct regulation etc)
• A global uniform policy instrument would need a
  supranational policymaker
• Harmonized national policy instruments require
  international cooperation between national
  policymakers

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Some Evaluation Criteria when Selecting Policy
Instruments

• Distribution effects between firms, government,
  consumers and countries
• Efficiency (total cost for industry as whole per
  reduction in emissions)
• Administration costs
• Output effects (additional reduction in emissions
  due to higher product price)
• Revenue recycling effect and green tax reforms
• Incentives for Innovation and R D
• Distortionary effects and trade flows

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Possible International Policy Instruments and
Harmonization

• Harmonized direct regulation
• A Uniform International tax
• Harmonized domestic taxes
• International Tradable Permits

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Harmonized Direct Regulation

• Setting standards and maximum levels of emissions
  becomes difficult since costs differ widely
  across industries in different countries.
• Total cost of reducing total emissions would be
  larger as marginal costs would differ across
  countries with different cost structures.

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A Uniform International Tax

• The tax revenue is collected centrally and
  redistributed to countries according to a
  cost-sharing rule. Also cost effective.
• Would need a Global Union where single countries
  hand over decision power to the Global Union
  (compare to EU legislation) which impose and
  enforce the tax in all countries.

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Harmonized Domestic Taxes

• Agreement across countries to adopt the same
  national tax rates. This would be cost effective,
  i.e. marginal abatement costs would be equal
  across countries and the total cost of total
  reduction in emissions would be minimized.
• If one country sets lower tax for its own
  industry it benefits domestic industry at the
  cost of other countries. Free-riding problem!
  Lobbying industry in some countries!

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International Tradable Permits

• Agreement about how much to reduce total
  emissions
• Countries need to agree how to allocate permits
  between countries
• Countries/firms may buy or sell permits on an
  international market for permits. (e.g. ETS)
• If grandfathered less resistance from industry
  in countries where lobbying power is strong

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Will EU-15 reach the Kyoto Protocol Target with
international tradable permits?
Oops?
Source Greenhouse gas emission trends and
projections in Europe 2007 Tracking progress
towards Kyoto targets EEA Report No 5/2007 ISSN
1725-9177
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A closer look again
Source Greenhouse gas emission trends and
projections in Europe 2007 Tracking progress
towards Kyoto targets EEA Report No 5/2007 ISSN
1725-9177
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Estimates for 2010 EU-15 must buy permits to
reach Kyoto target!! Who will sell permits?
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Problems of Many Sovereign Policymakers

• Each government needs to find a national
  environmental policy harmonization problems
• No supranational policymaker exists that can
  legally enforce national policies that are
  globally optimal ? commitment problems
• Harmonization of national policy instruments
  requires voluntary international cooperation
  between policymakers ? free-rider problems

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International Environmental Agreements (IEA)

• UN denotation
• Convention Agreement about objectives
• Protocol Agreement about implementing policies
  (calls for policy action)
• Some conventions
• UNs Framework Convention on Climate Change
  (UNFCCC) 1992
• International Convention for the Regulation of
  Whaling
• Some protocols
• Helsinki Protocol - 21 ECE parties on sulphur
  emissions
• Montreal Protocol - 191 parties on CFC gases
• Kyoto Protocol - 174 parties on GHG gases

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Five Stages in International NegotiationBarrett
(1998)

• Absence of a Supranational Policymaker ?
  International negotiations as a process towards a
  cooperative outcome
• 1. Pre-negotiation
• An informal process where the countries make
  claims (sometimes cheap talks and non-credible
  threats) trying to improve their bargaining
  position.
• 2. Negotiation
• Representatives of the countries come together
  in the first formal meetings. Start with choosing
  a written text, a negotiating draft, which is
  discussed in different groups by representatives
  from the countries. A protocol according to UN is
  a joint instrument containing obligations (what
  to do) for the countries to implement the
  objectives of a convention

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• 3. Ratification
• The representative will take the signed protocol
  and hand it over to her parliament which may or
  may not ratify the protocol by a decision-making
  process that satisfy domestic legislation.
• 4. Implementation
• 5. Re-negotiation
• Treaties may be adjusted afterwards by consensus
  as a result of unforeseen events. If a treaty is
  amended it must usually be ratified again.

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Game theory in policy analysis
Similar structural problem as a Prisoners
dilemma and the beach problem!
Country 2
Ratify
Not ratify
-20, -20
40,-30
Not ratify
Country 1
Ratify
-30, 40
20, 20
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Common Methodological Approach in International
Policy Making

• Determine the Nash equilibrium policies as a
  benchmark
• Determine the Cooperative Solution as objective
  or benchmark
• Coalition Theory

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1. Nash equilibrium policies

• Determine the Nash equilibrium policies
• Every policymaker chooses her own optimal
  emissions levels given the expectation that any
  other policymaker also will do this
• No communication but individual setting of
  emission levels among policymakers

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2. Cooperative Solution

• Determine the Cooperative Solution
• A set of Pareto optimal levels for national
  policies
• A burden sharing rule that fulfils some
  individual rationality condition e.g.
• Nash bargaining solution
• Kalai-Smorodinsky solution
• Egalitarian solution

Side payments may be needed to satisfy individual
rationality!
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Nash Bargaining Solution
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Example Carbon Taxes in the RICE model
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Net Benefits of Noncooperation vs Cooperation in
the 1999 RICE model
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Net Benefits from Noncooperation and Cooperation
in 1999 RICE model
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(No Transcript)
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Major Interests in Climate Negotiations

• EU and many developed countries want a global
  system for emissions reductions and binding
  commitments
• USA does not want binding agreements but rather
  cooperation based on voluntarily agreements
  also energy efficiency before reductions
• Fast growing economies seem to accept CO2
  reductions but want guarantees for further
  economic development
• Developing countries prefer no reduction in their
  emissions but want guarantees for economic
  development from poverty and adaptation
• India and China claim they are going to increase
  CO2 emissions
• OPEC wants compensation for reduction in
  incomes or support for economic diversifying

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3. Coalition Theory (brief introduction)

• Instead of exogenously assuming that no one
  cooperates (as in Nash eq.) or that all
  cooperates (as in the cooperative sol.) - make
  the number of countries cooperating endogenous
  and solve for how many (of all) will join a
  coalition.
• The size of a coalition can be anything between 1
  country (trivial case) and all N countries (full
  cooperative solution).
• Are there ways we can design protocols or the
  process of treaty-making such that a coalition
  grows bigger, approaching the cooperative
  equilibrium?

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Simplest example with 3 countries
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Simplest example with 3 countries
With more than three countries, the number of
combinations to calculate increases at a
horrifying rate! Usually only numerical
simulation possible.
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Framework of Coalition Theory

• A coalition S consists of 1, , N countries
• Countries within the coalition cooperate with
  each other and jointly play Nash strategy
  policies against the countries which have chosen
  to stay outside
• Each country that stay outside the coalition
  plays a Nash strategy policy against the
  coalition and all other countries that are
  outside
• A country that joins a coalition is rewarded
  since the other countries increase their
  abatement levels
• A country that leaves a coalition is punished as
  the remaining participants in the coalition will
  act together as one big agent playing Nash
  strategies against her

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Equilibrium with a Stable Coalition

• Definition A stable coalition S occurs when
• no country has an incentive to leave the
  coalition (internal stability) and
• no country has an incentive to join the coalition
  (external stability)

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How do we grow a stable coalition?
Look for ways to design protocols or the process
of treaty-making such that a stable coalition
grows bigger, towards the cooperative equilibrium?
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What determines the size of a stable coalition?

• Conclusive is the ratio of the MC slope and MB
  slope of the countries that join the coalition
  (Barret, 1994b)

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Self-enforcing International Agreements
(Barrett, 1994b)
The steeper the MC curve is relative to the slope
of the MB curve, the more difficult becomes
cooperation between the countries Barrett
(1994b) The stable coalition size may decrease at
most down to 2 countries and the remaining 98
countries free-ride in the N 100 case
Implications for mechanisms when designing
protocols and IEAs!
The flatter the MC curve is relative to the slope
of the MB curve, the easier becomes cooperation
between the countries Barrett (1994b) The stable
coalition size may increase up to 100 of 100
countries and no free-riders in the N 100
case
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Mitigating Growth of Stable Coalitions

• The process by which negotiation takes places
  matters (could countries with low ratio of MC/MB
  slope start negotiations?)
• Minimum Participation Clauses (MPC)
• Design of payment flows in agreements that may
  change the relative ratio of the slopes of MC/MB

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Minimum Participation Clauses (MPC)

• Example Kyoto protocol required at least 55
  Parties to the Convention, incorporating Parties
  included in the Annex I which accounted in total
  for at least 55 per cent of the total carbon
  dioxide emissions for 1990 of the parties
  included in Annex I
• The MPC makes each participating countrys
  obligations a non-linear function of the total
  number of signatories.
• The MPC gives incentives to countries at the
  margin, to join the agreement. (Russia 2004) as
  they will bind all countries that have ratified
  the agreement.
• Courtois Haerringer (2005) calculate optimal
  MPC levels

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Literature

• Barrett, S. (1994), Strategic Environmental
  Policy and International Trade, Journal of
  Public Economics 54 325-38.
• Chichilnisky, G, North South Trade and the
  Global Environment, AER, Sept 1994.
• Oates, W.E. and R.M. Schwab (1988), Economic
  Competition Among Jurisdictions Efficiency
  Enhancing or Distortion Inducing? Journal of
  Public Economics 35(3) 333-54

40

• Barrett (1994)
• Case with two countries, two policymakers and one
  industry in each country

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• Chichilnisky (1994)
• South ill-defined property rights ? South
  overproduces resource-intensive goods even if its
  not well endowed with them and North
  overconsumes it. Taxes may worsen the situation.

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• Oates, W.E. and R.M. Schwab (1988),
• Combining environmental standard and a tax on
  capital to induce capital inflow to the region

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Summary - International Policy Making

• Many policymakers with different benefits and
  costs
• No supranational policymaker that can enforce
  globally optimal policies
• Non-cooperative Nash and cooperative solutions
  become extreme benchmarks in game-theoretic
  analyses
• Coalition theory may analyse the cases of partial
  cooperation between Nash and full cooperation as
  special extreme cases
• The objective of policy instruments becomes one
  of mitigating growth of stable coalitions towards
  cooperative solution rather than just
  internalizing externalities
• Examples of conclusive matters Ratio of the
  slopes of MC/MB, design of payment flows in
  agreements, the process by which negotiation
  takes place matters, Minimum Participation
  Clauses (MPC)

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Thanks