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Free trade agreements and the environment with pre-existing subsidies

Author

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  • Claustre Bajona

    (Economics University of Miami)

  • David Kelly

Abstract

Countries that wish to erect trade barriers have a variety of instruments at their disposal. In addition to tariffs and quotas, countries can offer tax relief, low interest financing, reduced regulation ,and other subsidies to domestic industries facing foreign competition. In a trade agreement, countries typically agree to reduce not only tariffs, but also subsidies. We consider the effect of a trade agreement on pollution emissions. We show that while reducing tariffs may indeed increase pollution intensive production in a country, reductions in some subsidies required by the trade agreement reduce pollution in general equilibrium for reasonable parameter values. The reduction results from two effects. First, a reduction in subsidies to firms reduces pollution-causing capital accumulation. Second, if subsidized firms, industries, and/or state owned enterprises are sufficiently more pollution intensive, then reducing subsidies moves capital and labor from more to less pollution intensive firms. We calibrate the model to the case of China and show that pollution emissions after China's accession to the WTO are up to 22.9 percent lower than a baseline in which China does not enter the WTO, without any pollution abatement policy changes or environmental side agreements.

Suggested Citation

  • Claustre Bajona & David Kelly, 2006. "Free trade agreements and the environment with pre-existing subsidies," 2006 Meeting Papers 306, Society for Economic Dynamics.
    • Handle: RePEc:red:sed006:306
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    References listed on IDEAS

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    More about this item

    Keywords

    trade agreements; domestic subsidies; pollution emissions; dynamic general equilibrium;
    All these keywords.

    JEL classification:

    • F18 - International Economics - - Trade - - - Trade and Environment
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics
    • Q56 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - Environmental Economics - - - Environment and Development; Environment and Trade; Sustainability; Environmental Accounts and Accounting; Environmental Equity; Population Growth

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