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Game Theory and International Environmental Cooperation

Michael Finus

The book investigates various strategies to provide countries with an incentive to accede, agree and comply to an international environmental agreement (IEA). Finus shows that by integrating real world restrictions into a model, game theory is a powerful tool for explaining the divergence between ‘first-best’ policy recommendations and ‘second-best’ designs of actual IEAs. For instance he explains why (inefficient) uniform emission reduction quotas have played such a prominent role in past IEAs despite economists’ recommendations for the use of (efficient) market-based instruments as for example emission targets and permits. Moreover, it is stated, that a single, global IEA on climate is not necessarily the best strategy and small coalitions may enjoy a higher stability and may achieve more.
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Chapter 14: Coalition Models: A Second Approach

Michael Finus


INTRODUCTION 14.1 In this chapter the coalition formation process in a global emission game is analyzed in a supergame framework by applying the concept of a weakly renegotiation-proof equilibrium (WRPE).1 We proceed in two steps. First, stability of a grand coalition is analyzed (Section 14.3), assuming discount factors close to 1 (Sub-section 14.3.2) and discount factors smaller than 1 (Sub-section 14.3.3). Stability will be investigated for seven different emission vectors: 1. 2. 3. 4. 5. 6. 7. a socially optimal solution; a globally optimal uniform emission tax; a globally optimal uniform emission reduction quota; a uniform emission tax if the median country’s proposal is applied; a uniform emission reduction quota if the median country’s proposal is applied; a uniform emission tax if the lowest common denominator decision rule (LCD decision rule) is applied; a uniform emission reduction quota if the LCD decision rule is applied. Additionally, the maximum emission reduction under a uniform tax and uniform quota regime will be determined which can be sustained as a WRPE. This is done to evaluate the efficiency of the two policy regimes independently of the decision rule chosen among the negotiators. Each emission vector implies a different abatement target and a different welfare allocation among countries. Transfers to alter the welfare allocation implied by an emission vector are not considered.2 Since a uniform tax is a cost-efficient instrument to tackle a pure public bad (see Section 11.2), a globally optimal uniform tax leads to a socially...

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