Wrapping Up. Lecture Outline Environmental issues (cont.) a. Does Globalization harm or help the environment?

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1 Wrapping Up Lecture Outline Environmental issues (cont.) a. Does Globalization harm or help the environment? Harms: regulatory race-to-the-bottom hypothesis Helps: gains from int l trade hypothesis Evidence supports Helps, but NOT on CO 2 (global warming) What s unique about global warming? Why is the U.S. so hostile to the Kyoto Protocol? Review of the course a. What we sought to explain: Relationship between world economy, economic growth, and distribution of wealth (across and within countries) b. Our explanatory variables: International level: political and economic factors Domestic level: endowments, interests, and institutions 1

2 Does globalization harm or help the environment? Two competing arguments 1. Harms: Race-to-the-bottom hypothesis: countries open to trade and investment adopt weaker environmental regulations, out of fear of a loss in competitiveness 2. Helps: The indirect Gains from trade hypothesis (trade growth environment gains) a. Openness raises income (via, specialization, comparative adv) b. As people get wealthier they demand better environment This is the inverted U shaped relationship between income per capita and pollution (aka the Environmental Kuznets Curve) c. With appropriate institutions in place, this demand will translate into effective regulation and the desired reduction in pollution Given a, b, and c, free trade should protect the environment 2

3 Basic Environmental Kuznets Curve (EKC) Inverse-U relationship between pollution and national income Pollutants Environmental decay: Higher incomes initially mean more production and consumption, and these activities tend to pollute Environmental improvement: As income grows the demand for environmental protection also tends to increase, leading to a development path characterized by both economic growth and environmental quality improvements Per-capita GDP Note: This relationship is named after Nobel Laureate Simon Kuznets, who found a similar relationship between per-capita GDP and income inequality. 3

4 Environmental Kuznets Curve (EKC): The Role of Institutions Bad institutions (limited political freedom, weak rule of law; poor property rights) Pollutants Good institutions (political and economic freedoms, rule of law, strong property rights) Per-capita GDP Institutions: When ordinary people have political power, civil and economic rights, economic growth is more environmentally friendly (a flatter EKC) and sustainable growth. 4

5 Recent estimates of EKC turning points Air pollutants reach apex of EKC at the following income levels: Particulate Matter: $2,882 per capita GDP Sulfur Dioxide: $5,770 per capita GDP Nitrogen Dioxide: $7,765 per capita GDP Trade openness (a higher ratio of trade to income) and good institutions (democracy) flatten the EKC for pollutants This optimistic story does NOT hold for carbon dioxide, the source of global warming No evidence that Kuznet s curve for CO 2 ever turns down on its own Source: Jeffrey Frankel and Andrew Rose, Is Trade Good or Bad for the Environment? Sorting out the Causality. NBER Working Paper No. 9021, September

6 What s unique about C0 2 and global warming? Some environmental problems, like global warming, are truly international (solutions are thus global public goods). Very nature of the potential harm - impact on global climate - makes unilateral action fruitless. Trade, growth, and institutions won t do it. International cooperation (a treaty) is needed Clinton signed the Protocol in Nov 1998, but Senate did ratify. Why? Bush, March 2001: Kyoto is dead. 6

7 Key points of the Kyoto Protocol Obliges developed countries to cut emissions of CO 2 and other greenhouse gases by about 5% from 1990 levels by 2012 (U.S. emissions have skyrocketed since then). Countries can offset the requirements by properly managing forests and farmlands that absorb carbon dioxide ( carbon sinks ). Can also earn credits by helping developing countries avoid carbon emissions (developing nations aren't required to reduce emissions). Agreement allows buying and selling the right to pollute, a market-based solution know as emissions trading. To take effect, the accord must be ratified by 55 countries responsible for 55% of greenhouse gas emissions. With the US rejection, Russian approval was needed. Russia begged out on 12/2/03 7

8 Government policy and the environment 3 ways of providing environmental public goods Regulatory limits (good) Corrective taxes (better) Create market for tradable pollution rights (best) Figure Example of a market in rights to pollute: Sulfur Dioxide Emissions Trading 1990 Clean Air Act sought to reduce acid rain by reducing SO 2 emissions from electricity generating plants to half their 1980 levels by Very successful! In 1995, emissions fell to about 5.3 million tons from 10.3 million tons in Suggest we should support Kyoto, which is based on a market in tradable rights. 8

9 Market for Tradable Pollution Rights Price of pollution permits P * X* The supply of pollution rights, and hence the quantity of pollution produced, is fixed at quantity X*. Rights can be used, banked (held for later), or sold to others. Firms not prepared to pay the market price, P*, to purchase pollution rights have to cut back emissions or adopt technologies that produce less pollution. Efficient since allowance holders can trade permits with each other, Tons of pollution so that those that can reduce produced emissions at lowest cost have an incentive to do so. They sell their allowances to those for whom the cost of reducing emissions would be greater. 9

10 Bush s Climate Change Policy? 10

11 Course Summary Sought answers to three interrelated questions: 1. What explains differences in economic growth rates, across countries and over time? 2. What explains the distribution of wealth and income, across countries and within them? Across countries (convergence/divergence) Within countries (domestic equality/inequality) 3. What is the relationship between the world economy, economic growth, and distribution? Question 3 is the heart of the course, so let s draw some general conclusions: 11

12 Regarding the relationship between the world economy and economic growth: Across countries: Globalizers (countries that embrace the world economy) tend to grow faster than non-globalizers Over time: Periods of global economic integration are periods of sustained economic growth (Golden Age and Post- WWII Globalization). Exception: during the Interwar Interregnum. When the world economy collapsed, it was costly to stay tied to it 12

13 Second, what is the relationship between the world economy and the distribution of wealth and income? Distribution across countries: Poorer countries that embrace the world economy experience catch-up. But other things matter too (e.g. institutions). Distribution within countries : Globalization inevitably creates winners and losers within countries. Endowments, Interests, and Institutions help us predict who wins and loses, who supports globalization and who does not, and how governments respond to the cross-cutting pressures 13