The Kyoto Agreement: Regional and Sectoral Contributions to the Carbon Leakage

Carbon emissions abatement in a group of countries can result in increased emissions in non-abating countries. This effect has been referred to as carbon leakage. The Kyoto Agreement calls for a number of industrialized countries to limit their emissions while other countries have no abatement commitments. This paper assesses the sectoral determinants of the leakage in a static multi-sector, multi-regional computable general equilibrium model. In baseline estimates based on our model, the Kyoto Agreement leads to the carbon leakage rate of 10 percent. A decomposition technique is applied which attributes increases in carbon emissions by non-participating countries to specific sectors in the abating countries. This information is important for the debate on the tax exemptions for certain industries in the participating countries as it provides information for the mostand leastleakage contributing sectors of the economy. In absolute terms, carbon restrictions on chemical, iron and steel industries are the major sources of the leakage of the carbon emissions into the developing world. In relative terms, these industries along with mining, non-ferrous metal industry, and non-metallic mineral industry have the highest ratio of induced leakage to their sectoral carbon emissions. Additional calculations indicate the need for caution in the carbon tax design. For example, exemptions of any sector from a carbon tax are not justified because they lower welfare in a region. At a region-specific level, actions by the European Union and the USA are mainly responsible for the leakage of carbon. Different regions have a different ratio of induced leakage to their share of abatement. Europe and Japan have a larger relative contribution to the leakage than the USA. The emissions are primarily transferred into China, the Middle East region, and South Africa. The degree of sectoral and regional data disaggregation, and international capital mobility do not change the leakage rate significantly. As has been noted in other studies, fossil-fuel supply elasticity and trade substitution elasticity are crucial determinants for projecting the total world emissions of CO2. ∗The author is indebted to Tom Rutherford and Jared Carbone for their discussions and comments. Financial support from the United States Department of Energy is greatly acknowledged. The author can be reached at: [email protected] †University of Colorado, Department of Economics, Boulder, CO 80309-0256, USA.