Equity and efficiency in international markets for pollution permits

The paper investigates the normative properties of international permit markets for uniformly mixed pollutants such as greenhouse gases. If permits can be traded at modest cost, there is unlikely to be any justification for second best arrangements that differentiate the marginal costs of abatement among countries. In particular, given a second best optimum, there will almost certainly be a cost-effective policy involving permit trading that dominates it in terms of social welfare, due to the redistributive effect of the initial allocation of permits as well as the efficiency gains of equalizing marginal costs. The socially optimal policy under permit trading may or may not be Pareto efficient, depending upon the specification of the model.