Lecture 6: Trade & Environment

Question 1

What are Potential environmental externalities of trade?

Answer 1

▪ Pollution (local air pollution, GHG emissions, …)
▪ Resource exploitation (forests, fisheries, soil, water)
▪ Land degradation and biodiversity (agriculture, …)
▪ …

Question 2

What are the two economic theories on trade?

Answer 2

▪ Absolute advantage: ability to
produce a particular good at a
lower absolute cost than another
Adam Smith (1723)

▪ Comparative advantage: ability
to produce a particular good at a
lower opportunity cost than
another
David Ricardo (1772)

Question 3

What is the comparative advantage?

Answer 3

Smith vs. Ricardo example: Lawyer & administration

Lawyer may be better at practising law AND administration than an
administration firm (absolute advantage of lawyer in administration).

Still, beneficial to separate administration: opportunity costs of lawyer doing administration are high (comparative advantage of administration firm in administration).

Question 4

What are some critiques on the Ricardian model?

Answer 4

• Production factors (labor and capital) are internationally
mobile; can move from North to South.
• Production factors are relative immobile between industries;
e.g. a baker can’t produce a t-shirt…
• Static model; production factors such as technology are dynamic in reality
√ Innovations from the USA, Germany and Japan account for more than 50% of growth in the OECD countries (Eaton & Kortum, 1996)

• Externalities; both countries gain from trade, but increased
production -> more pollution.

Question 5

What are the underlying factors of the Kuznets curve?

Answer 5

1. Scale effect (dominant in beginning)
   More industrial production, more growth, more pollution
2. Composition effect (dominant in middle)
   Economy shifts from industrial to a service economy
3. Technique effect (dominant in the end)
   Cleaner technologies become available

Question 6

What are potential negative impacts of trade on environment?

Answer 6

Negative
▪ Trade increases growth, initially negative effect of growth and production scale
on environment (EKC)
▪ Related point: if EKC does not hold, trade may decrease environmental quality
globally due to dominance of scale effects
▪ Trade increases transportation externalities
▪ Trade facilitates leakage when
environmental regulations vary
•Link composition effect and leakage – trade
leads to leakage, changing composition in
importing and exporting country. Without real
change (consumption patterns & production
technologies) this process has a limit, and
pollution/resource extraction will continue.