Coalition formation among industrialised and developing countries with and without the implementation of a Border Tax Adjustment
Can Border Tax Adjustments (BTA) facilitate and improve the formation of International Environmental Agreements (IEAs), in the sense that more countries accept more stringent emission reductions? To answer this question, two policy scenarios were derived from a game-theoretic model; in the first one, countries introduce a domestic producer tax on the production of the so-called dirty good responsible for GHG emissions, and in the second one, a classic BTA is implemented, where this domestic tax is extended to traded dirty goods.
The figure shows the coalition formation among industrialised and developing countries with and without the implementation of a BTA. The stability functions have to be positive for both types of countries such that they want to be part of the coalition and have no incentive to leave it. The x-axis indicates the number of industrialised countries (in grey) in the coalition, hence coalition size minus this number indicates the number of developing countries (in blue) in the coalition. For up to three countries in the coalition, a stable coalition can be formed under both policy scenarios. A higher coalition size can only be reached under the BTA scenario. The largest achievable coalition consists of six members, of which one is an industrialised country and five are developing countries. Coalition sizes above six continue to be profitable for industrialised countries with a BTA in place, but because of the welfare losses of the developing countries they cannot sustain a larger stable coalition unless they would "pay" the developing countries for their membership. We find that with such a transfer scheme in place, a coalition size of eight members, consisting of three industrialised countries and five developing countries, is stable. Our results point out an important factor for international climate negotiations: the inclusion of developing countries in climate negotiations (through the UNFCCC principle of "common but differentiated responsibilities") because it opens up the opportunity for substantial efficiency gains.
The thesis has further shown that a BTA exhibits some advantages over current climate policy instruments, since it is able to tackle key concerns raised by countries planning to move forward with unilateral climate policies such as carbon leakage and competitive losses. Furthermore, the implementation of a BTA facilitates the formation of IEAs under which especially industrialised countries accept more stringent emission reductions than with a simple domestic producer tax, such that global emissions can be reduced. Therefore, the concept serves as a complementary policy tool for national and regional climate strategies with the aim of helping to reach climate goals formulated under the Paris Agreement.
Figure from the thesis "International Environmental Agreements and Trade Sanctions: A Game-Theoretical Analysis of the Impact of a Border Tax Adjustment" by Sophie Kaufmann, 2021.
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