Intra-Industry Trade and the Environment

This paper develops a one-sector general equilibrium model featuring differentiated products, monopolistic competition, and endogenous environmental policy to examine the effects of intra-industry trade on the environment. Our results suggest: (i) the environmental effects of trade depend on how consumers respond to the gains created by new imported varieties, (ii) free trade between identical countries can be welfare improving, even if pollution emissions increase with trade, (iii) free trade can yield globally inefficient pollution levels even if governments initially set efficient policy in autarky, and (iv) maximizing global welfare requires accompanying free trade with an environmental agreement that coordinates environmental policy across countries.