The Pollution Haven Hypothesis November 2007

The Pollution Haven Hypothesis November 2007 - The...

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1 The Pollution Haven Hypothesis (PHH) November 8, 2007
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2 The main question Does trade liberalization worsen environmental problems? Many people think that the answer is “yes”, and base their opposition to trade liberalization on this belief. They also worry that trade makes it more difficult to impose environmental laws – and that trade makes these laws less effective. How do we approach these issues? We need to know exactly what we mean by the question(s), and we need some theory to help organize our thoughts.
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3 Outline of lecture Describe Pollution haven hypothesis (PHH) Review theory of the second best and the Principal of targeting. Review reasons why countries trade. Discuss examples in which increased trade or foreign direct investment (FDI) can harm or benefit the environment. Discuss welfare effect. Explain relation between a country’s environmental laws and that country’s comparative advantage in “dirty goods”. The next set of lectures will discuss the empirical issues associate with the PHH.
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4 Important concepts or terms in these lectures; some of these are familiar Pollution haven hypothesis Theory of the second best and Principle of targeting Factor endowments and the Heckscher- Ohlin-Samuelson model. Rybczynski effect Environmental Kuznets’ curve leakage
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5 Three versions of the Pollution Haven Hypothesis (PHH) 1. At the margin, pollution control costs have some effect on investment decisions and trade flows. (Non-controversial) 2. Pollution control costs are important enough to measurably influence trade and investment. (A difficult empirical question – and the one that we are interested in.) 3. Countries set their environmental standards below socially efficient level in order to attract investment or to promote its exports. (This is a difficult empirical and conceptual issue, which the empirical literature does not address.) #3 unlikely to be true unless #2 is also true.
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6 Relevance of TSB when #3 is true Suppose that environmental laws are too weak and that trade liberalization leads to greater environmental damage. Trade liberalization might either increase or decrease welfare – recall example from previous lecture on TSB. Liberalization (e.g. a reduction in trade restriction) increases “standard” gains from trade – which in the partial equilibrium model is the net increase in the sum of consumer and producer surplus. But liberalization might (or might not!) exacerbate environmental distortion. (Higher gains from trade is the benefit and higher environmental damage – in some cases -- is the cost of trade liberalization.) Are the benefits greater or less than costs? Remember that welfare costs tend to be proportional to “square of the distortion”. (See notes on “gains from trade, partial equilibrium.)
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7 Principle of Targeting (again) The economist’s instinctive response to “second best” arguments for trade restrictions: Principle of Targeting. Trade
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