Global Co2-Trade and Local Externalities

The burning of fossil fuels not only causes CO2 emissions but at the same time impairs local environmental quality such as ambient air quality. The present paper analyzes the possible distortion arising from international trade in CO2 emissions when local externalities persist. It is theoretically derived that the maximal possible distortion is determined by the difference in factor endowment and population density of the trading regions. Moreover, an empirical illustration for Switzerland shows that a rich country buying emission rights sustains a welfare loss