Working Paper | HBS Working Paper Series | 2015

Carbon Tariffs: Effects in Settings with Technology Choice and Foreign Production Cost Advantage

by David F. Drake


It is widely believed that carbon leakage—offshoring and foreign entry in response to carbon regulation—increases global emissions. It is also widely believed that a carbon tariff—imposing carbon costs on imports entering the emission-regulated region—would eliminate carbon leakage. However, neither of these assertions necessarily holds. Under a carbon tariff, foreign firms with a production cost advantage adopt clean technology at a lower emissions price than domestic firms, and foreign entry can increase in emissions price when foreign firms hold this edge. Further, domestic firms conditionally offshore production despite a carbon tariff, but doing so implies that they adopt cleaner technology. Therefore, carbon leakage can arise under a carbon tariff but, under mild conditions, it decreases global emissions. Due in part to this clean leakage, imposing a carbon tariff is shown to decrease global emissions. However, domestic firm profits can increase, decrease, or remain unchanged due to a carbon tariff. This suggests a carbon tariff’s principal benefit is not to protect domestic firm profits, as some argue. Rather, it is to improve emissions regulation efficacy, enabling emissions price to be used to reduce global emissions in many settings in which it would otherwise fail to do so.

Keywords: Technology; Competition; Pollution and Pollutants; Taxation; Environmental Sustainability; Globalized Markets and Industries;


Drake, David F. "Carbon Tariffs: Effects in Settings with Technology Choice and Foreign Production Cost Advantage." Harvard Business School Working Paper, No. 13-021, August 2012. (Revised November 2015.)