Carbon policy and the structure of global trade

Alternative perspectives on the structure of international trade have important implications for the evaluation of climate policy. In this paper we assess climate policy in the context of three important alternative trade formulations. First is a Heckscher-Ohlin model based on trade in homogeneous products, which establishes the traditional neoclassical view on comparative advantage. Second is an Armington model based on regionally differentiated goods, which constitutes a popular specification for numerical simulations of trade policy. Third is a Melitz model based on monopolistic-competition and firm heterogeneity. This heterogeneous-firms framework is adopted in many contemporary theoretic and empirical investigations in international trade. As we show in this paper, the three alternative trade formulations have important implications for the assessment of climate policy with respect to competitive effects for energy-intensive production (and hence carbon leakage) as well as the transmission of policy burdens across countries.