International coordination of environmental policies: Is it always worth the effort?

Abstract

We study entry policies as an alternative form of environmental policy. Given the strong political opposition to standard output subsidies and taxes, several countries have recently used entry policies to promote renewable energy technology, such as solar panels and biofuels. We study a two-stage game in which two regulators choose an entry policy (i.e., tax, subsidy or permit) to maximize domestic welfare. Observing the policy, firms decide the region in which to enter and compete as Cournot oligopolists. We find that both domestic (uncoordinated) policies and internationally coordinated policies increase welfare relative to unregulated settings. However, the welfare gains from international policy coordination are only large when the product is extremely clean. These results indicate that the welfare gains of international policy coordination may only offset the costs of negotiation in relatively clean industries.