Climate change policy, market structure, and carbon leakage

The 1997 Kyoto Protocol on climate change obliges the industrialized countries to initiate the international effort of abating anthropogenic greenhouse gas (GHG) emissions. If such an initiative is to be taken, the associated competitive effects may lead to significant relocation of developed countries' energy-intensive production. This paper examines this issue. I adopt an oligopolistic structure combined with increasing returns to scale production technologies to represent the strategic interaction among the firms producing energy-intensive products. This representation is then embedded within a multi-regional computable general equilibrium model, which in turn is used for quantifying these relocational effects. The results suggest that significant relocation of energy-intensive industries away from the OECD may occur, depending on the type of market structure, with leakage rates as high as 130%, in which case GHG control policies in the industrialized countries actually lead to higher global emissions.