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11

Trade and the EnvironmentTrade and the Environment

Jeffrey FrankelJeffrey FrankelHarpel Professor Harpel Professor

Harvard Kennedy SchoolHarvard Kennedy School

Thinking Ahead on International TradeThinking Ahead on International Trade

Geneva,Geneva, June18, 2009June18, 2009



22

The antiThe anti--globalization movementglobalization movement

� Ten years ago some protestors at the Seattle WTOMinisterial meeting, launching the first of the big anti-globalization demonstrations, wore turtle costumes.

� Why?

� They felt that a WTO panelhad, in the name of free trade,negated the ability of the USto protect sea turtles,

± simultaneously underminingnational sovereignty &

± the international environment.



33

Central questionsCentral questions

� Is trade good or bad for the environment?� Does globalization help or hurt in achieving

the best tradeoff between environmentaland economic goals? ± Do international trade & investment allow

countries to achieve more economic growthfor any given level of environmental quality?

± Or do they damage environmental quality for

any given rate of economic growth?

� Do the WTO & environment conflict?

� How can globalization best be harnessed?



44

Symmetric fearsSymmetric fears

� Free traders fear that talk of environmentalprotection will be used as an excuse by someindustries to gain protectionfor themselves againstcompetition from abroad.

� Environmentalists fear that talk of free trade

will be used as an excuse to giveinadequate weight toenvironmental goals andexcessive weight to GDP.



55

Widely agreed: openness to tradeWidely agreed: openness to trade

& other international activity is& other international activity is

goodgood for economic growthfor economic growth

� In theory: classical comparative advantage

(e.g.,

Ricardo) & more modern theories of tradebased on imperfect competition (e.g., Krugman).

� Empirically: many studies.

± E.g., one estimate: every .01 increase in a country¶strade/GDP ratio raises income 3 ½ % (over next 20 yrs) --

Frankel-Romer



66

But what about effect of opennessBut what about effect of openness

onon environmental quality environmental quality ,,which is not capturedwhich is not captured

in GDP statistics?in GDP statistics?



77

Is trade itself good or badIs trade itself good or bad

for the environment?for the environment?

� There are many possible effects of trade.

� They can be categorized according to

± Whether they� (i) operate via GDP, just like investment,technology, or other sources of economic growth,

� or (ii) are peculiar to trade alone,and hold for a given level of GDP.

± Within each category, there are effects both� beneficial for the environment,

� and detrimental.



88

Is growthIs growth per se per se good or bad for thegood or bad for theenvironment?environment?

� Environmental

Kuznets Curve:Grossman and Krueger (1995)

Economic growth (whether trade-led or not) is goodfor the environment abov e a peak lev el of inc ome.

± EKC is confirmed for some pollution measures, e.g., SO2,

± But generally rejected for CO2 .

± Democracy matters too => need effective nationalregulation, not just demand for clean environment.

Inequality

e.g., as measured by

Gini coefficient

Income/capita

Environmental

damage



99


for thefor the environmentenvironment, in theory?, in theory?

Environmental

effects of trade

via growth in

income:

for a given level of

income :

E nv ir onment al K.Cur v e

Harmf ul effects larger scale of economic activity

³Race to the bottom´in national regulation

Beneficialeffects shifts to cleaner techniques and

composition of economic activity

³Gains from trade´:ratcheting upstandards, consumer power, innovation«



1010

Gl obaliz ati on

Protectionism

The impossible trinity

of global environmental regulation

E nv ir onment al

st and ards

N ati onal

sov ereignty

Unregulatedemissions

Multilateralgovernance

RACE

TO THE

BOTTOM



1111

Some examples of trade helping environmentSome examples of trade helping environment� Imports of environmentally friendly products

(fuel-efficient autos, sugar-based ethanol«)

� Trade brings technological innovation, which can,for example, save energy.

� MNCs bring global standards to where the local alternative is

environmentally less friendly.� Consumers can express enviro preferences via buying habits,

e.g. ³dolphin-free´ labeling on tuna achieved its purpose.

� Multilateral agreements

± Potential for trade sanctions, as in Montreal Protocol onozone depletion

± Kyoto Protocol� International trade in emissions permits: a win-win feature� Russia ratified as quid pro quo for EU supporting its WTO accession.



1212

Which tend to dominate in practice:Which tend to dominate in practice:

� The effects of trade that are detrimental tothe environment (e.g., race to the bottom)?

� Or the effects of trade that are beneficial(e.g., US imports of fuel-efficient autos)?

� It depends on what measure of environmental quality is at stake.



1313

SOSO22 concentrations tend to fall with opennessconcentrations tend to fall with openness,,especially after controlling for democracyespecially after controlling for democracy,, crosscross--countrycountry

High-democracy

Low-democracy

= Trade/GDP



1414

COCO22 emissions/cap tend,emissions/cap tend, if anything,if anything,

to rise with opennessto rise with openness

CO2 Emissions vs. Trade Openness (ave data 1991 and 1992)

5

1

15

2

25

3

1 2 3 400

Trade Openness

C O 2

E m i s s i o n s p e r C



1515

But these rough correlations tell us little.But these rough correlations tell us little.

� To isolate the effect of trade on a country¶senvironment, we need to control for other determinants, such as

± income

± democracy

± population density.

� Econometric analysis ± ± Frankel and Rose, 2004Frankel and Rose, 2004



1616

Environmental quality equationEnvironmental quality equationSource: Frankel & Rose,Source: Frankel & Rose, R .E c.& St atsR .E c.& St ats., 2004., 2004

ii

ii

ii

i

eCap LandArea

DemocracyY M X

popY popY

Enviro

!

,90

,90,90

2

,9022,90110

)/(

)()/]([

)/()/(

P

T Q

N N N

IV for GDP/cap: investment, education«IV for openness: geographically-based prediction of trade



1717


for the environment, statistically?for the environment, statistically?Source: Frankel and Rose,Source: Frankel and Rose, R .E c.& St atsR .E c.& St ats., 2004., 2004

Environmental

effects of

trade (1990)

via growth in income: for a given

level of

income:for SO2concentrations

EKC: after an income of about$5,700/cap., further growthtends to reduce pollution

(via national regulation)

The favorableeffects of tradeseem todominate

for CO2emissions / capita

No sign that total emissionsturn down.

(CO2 is a global externality:little regulation is possible atthe national level.)

Trade may alsoincreaseemissions evenfor a given levelof income



1818

Do harmful or beneficial effects of trade dominateDo harmful or beneficial effects of trade dominate

for environmental goals? Bottom lines:for environmental goals? Bottom lines:

� For SO2

± at low incomes, harmful effects (EKC) work

against beneficial effects ± at high levels of income, trade helps through

both channels.

� For CO2

± Even at high levels of income, trade continuesto hurt. <= Absent an effective multilateraltreaty, the popular will cannot be enacted.



1919

I have now updated this econometric analysisI have now updated this econometric analysis

-- putting together data for 1990-2004,

± for 158 countries.

� EKC (the inverted U) shows upfor PM10 , and water pollution.

� Trade still appears to worsen CO2.

� Again, the obvious explanation: the lack of a comprehensive global climate agreement.

� in a 2009 paper for the Swedish Globalisation Council



2020

The antiThe anti--globalizationglobalization movement:movement:

the first big protests inthe first big protests in Seattle, 1999Seattle, 1999



2121

Why did they march together in Seattle?Why did they march together in Seattle?

Categoryof demon-

strator

Claimedconsti-tuency

True positionof constituency

Protestor

in turtlecostume

Environ-

ment

In favor of the Kyoto Protocol

Labor union

official

Organized

labor

Ag ainst the Kyoto protocol; infavor of keeping out cheap

imports from poor countries.NGO

volunteer

Poor

countries

I n favor of those exports to richcountries; in favor of Kyotoprotocol only if it exempts them.



2222

What do the antiWhat do the anti--globalizers meanglobalizers meanwhen they say the WTO iswhen they say the WTO is

an intrusive undemocratic bureaucracy?an intrusive undemocratic bureaucracy?

� Its governance? = the member-country governments. ± Technically one-country one-vote.

± True, US & EU have disproportionate weight.But making it more democratic would mean giving more weight to India.Result: Policy would give much l ow er priority to the environment.

� The Articles of Agreement?Hard to object to, as we will see.

� The WTO staff? A few thousand powerless technocratsworking in a house on Lake Geneva.

� WTO panel rulings that interpret the rules? That must be it.



2323

Typical WTO panel casesTypical WTO panel cases

� Tariffs or other measures that discriminateagainst producers in some trading partners,

±either in favor of other trading partners

(potential violation of MFN principle of Article I) or

± in favor of ³like products´ from domestic producers(potential violation of national treatment provision of Article III).



2424

Typical WTO panel cases,Typical WTO panel cases, continuedcontinued

� If targeted country files a WTO complaintalleging such a violation, the question iswhether the measure is permissible under Article XX ± which allows for exceptions to the non-discrimination

principles for environmental reasons (XXb),

± provided that the measures in question are not ³ameans of arbitrary or unjustifiable discrimination´ or a³disguised restriction on international trade.´



2525

Kyoto &Kyoto &

GenevaGeneva

Will the Global Climate ChangeRegime Come Into Conflict

with the

Global Trade Regime?



2626

Mutual respectMutual respect

� Drafters in Kyoto and Geneva showedmore consideration for each other thanthe rank & file of environmentalists and

free traders.� The Kyoto Protocol text:

± Parties should ³strive to implement policies

and measures...to minimize adverse effectson international trade...´ ;

±UNFCCC features similar language



2727

Mutual respect,Mutual respect, continuedcontinued

� WTO regime is equally solicitous of theenvironment: ± Article XX allows exceptions for health &

conservation

± Preamble to 1995 Marrakesh Agreementestablishing WTO seeks ³to protect andpreserve the environment;´

± 2001 Doha Communique starting new round of negotiations: ³the aims of ... open and non-discriminatory trading system, and actingfor the protection of the environment ...must be mutually supportive.´



2828

The Kyoto ProtocolThe Kyoto Protocol

is in my view a useful foundation. But it lacks:is in my view a useful foundation. But it lacks:

� Provisions for emission targets in future years

� Targets for US, China & other developing countries

� An enforcement mechanism

± including an incentive for holdouts to join, and

± enforcement of the agreement. ± Could trade sanctions be the mechanism?



2929

Possible application of trade barriersPossible application of trade barriers

by US climate change legislation:by US climate change legislation:

� The serious Climate Change bills

introduced in the 110th Congress

called for some border adjustment: ± energy-intensive imports require permits

± or tax applied to fossil fuel imports.

� Washington may not realize thatthe US is likely to be the victim of legal

sanctions before it is the wielder of them.



3030

Possible application of trade barriersPossible application of trade barriers by EUby EU::

Directive of the European ParliamentDirective of the European Parliament& of the Council, & of the Council, Paragraph 13,Paragraph 13,amending Directive 2003/87/EC so as to improve and extendamending Directive 2003/87/EC so as to improve and extend

the EU greenhouse gas emissions allowance trading system; Brussels, Jan. 2008:the EU greenhouse gas emissions allowance trading system; Brussels, Jan. 2008:

� ³Energy-intensive industries which are determined to beexposed to significant risk of carbon leakage could receive a

higher amount of free allocation, or

� an effective carbon equalization system could be introduced

with a view to putting EU and non-EU producers on acomparable footing. Such a system could apply to importers

of goods requirements similar to those applicable to

installations within the EU, by requiring the surrender of

allowances.´



3131

Would carbonWould carbon--import penalties beimport penalties be

compatible with theWTO?compatible with theWTO?

Question (1):

GHG emissions are generated by so-calledProcesses and Production Methods (PPMs).

Does that rule out trade measures against them?

Question (2):

What specific trade control design is appropriate?



3232

Precedent (1): Montreal Protocol onPrecedent (1): Montreal Protocol on

stratospheric ozone depletionstratospheric ozone depletion

� Trade controls had two motivations:

± (1) to encourage countries to join, and ± (2) if major countries had remained outside,

would have minimized leakage, the

migration of production of bannedsubstances to nonparticipating countries.

± In the event (1) worked, so (2) not needed.



3333

Precedent (2): The true meaning of thePrecedent (2): The true meaning of the

1998 WTO panel shrimp1998 WTO panel shrimp--turtle decisionturtle decision

� New ruling: environmental measures can target,

not only exported products (Article XX), but also partners¶

Processes & Production Methods (PPMs),

� subject, as always, to non-discrimination (Articles I & III).

� US was able to proceed to protect turtles, without

discrimination against Asian fishermen.

� Environmentalists failed to notice

or consolidate the PPM precedent.



3434

Precedent (3): In case there is any doubt thatPrecedent (3): In case there is any doubt that

Article XX, which uses the phrase ³health andArticle XX, which uses the phrase ³health and

conser vation,´ applies to climate change, «conser vation,´ applies to climate change, «

� a 3rd precedent is relevant:

� In 2007, a WTO A ppellate Body decision regardingBrazilian restrictions on imports of retreaded tires

confirmed the applicability of Article XX( b):

� R ulings ³accord considerable flexibility to WTO

Member governments when they take trade-restrictive

measures to protect life or health« [and] apply equally

to « measures taken to combat global warming.´



3535

� Central message: border measures to addressleakage need not necessarily violate sensible trade

principles or the WTO, ± but there is a great danger that they will in practice.

� The big danger: If each country imposes border measures in whatever way suits national politics,

± they will be poorly targeted, discriminatory, and often disguisedly protectionist;

± they will run afoul of the WTO, and will deser ve to.

� We need a multilateral regime to guide such measures.

� Some subjective judgments as to principles thatshould guide design of border measures«



3636

A ppropriate border adjustments could be tariffsA ppropriate border adjustments could be tariffs or , or ,

equivalently, a requirement that importers surrender tradable permits.equivalently, a requirement that importers surrender tradable permits.

Guiding principles include:Guiding principles include:

� Measures should follow guidelines multilaterally-agreedamong countries participating in the targets of KP & its successors.

� Judgments as to findings of fact (who is complying, etc.)

should be made by independent expert panels.

� Measures should only be applied by countries that cuttheir own emissions in line with the KP & its successors,against countries not doing so due to either refusal to join or failure to comply.

� Import penalties should target fossil fuels, and a half dozen of the most energy-intensive major industries:aluminum, cement, steel, paper , glass, and perhaps iron & chemicals.



3737

ConclusionsConclusions

� Has globalization damaged the environment?

± either among open countries in general (througha ³race to the bottom´ in environmental

regulation) or ± in certain countries (³pollution havens´).

± Such effects are plausible in theory, but empiricalstudies of cross-country data find no detrimental

effects of trade on some measures of environmental degradation such asSO2 air pollution, controlling for income.



3838

E conomic/environmental E conomic/environmental winwin- -win exampleswin examples

� Remove barriers to imports of environmental goods ± US ended restrictive 80s tariffs & quotas on Japanese auto

imports, benefiting both consumer pocketbook & air quality

± USG proposal for Doha round: liberalize capital equipment

and servicesu

sed in environmental sector ± US could let in imports of Brazil¶s sugar/ethanol, againhitting all 3 goals.

� A global ban on subsidies to fossil f uels

would achieve both enviro goal of reducing carbon emissionsand economists¶ goals of reducing deficit spending& an economic distortion.



3939

Summary of conclusions,Summary of conclusions, continuedcontinued

� Thus globalization and the environmentneed not necessarily be in conflict.

± Trade & growth give countries the means toclean the air,

� provided they have effective institutions of governance in place.

� For local air pollution, the appropriategovernance is at the national level.



4040

Summary of conclusions,Summary of conclusions, continuedcontinued

� But the evidence does suggest that trade & growthcan exacerbate other measures of environmentaldegradation, particularly CO2 emissions.

� The difference can be explained by the observationthat CO2 is a global externality

± which cannot be addressed at the national level

due to the free rider problem. ± We need institutions of governance at the multil ater al level.

± These have not been in place, at least until recently.



4141

The solutionThe solution

� Greater international cooperation onenvironmental and trade issues,

� so that we can get the best of both.

� Very specifically, the CopenhagenConference of Parties shouldagree guidelines for penalties

on carbon-intensive importsthat countries are allowed toimpose on each other.



4242



4343

The aut hor ac k now ledgesThe aut hor ac k now ledges

� c a pable researc h assist ance by Danxi a Xie;� valuable input f r om J oseph Aldy, Sc ott Barrett,

J agdish Bhag wati, Thomas Brew er, Stev eC harnov itz, Ari k Lev insohn, Gary S am pson &

R ob

ert St av

ins;� usef ul c omments on t he f irst dr af t f r om P ontusBr auner hj el m, Pr asant h R egy, R ob St av ins,Helena S valeryd, and Danxi a Xie;

� and support f r om

± t he H ar vard Pr ogr am on I nternati onal Cli mate Agreements

± a F aculty Gr ant in Sust ainability Science f r om H ar vard¶s Center for I nternati onal Dev el o pment,

± as w ell as f r om t he Gov ernment of S w eden.



4444

Writings underlying this lectureWritings underlying this lectureavailable atavailable at

http://ksghome.harvard.edu/~jfrankel/currentpubsspeeches.htm#Trade%20and%20Climate%20Changehttp://ksghome.harvard.edu/~jfrankel/currentpubsspeeches.htm#Trade%20and%20Climate%20Change

� ³Environmental Effects of International Trade,´ A Report for the Swedish Globalisation Council,Government of Sweden, 2009. HKS RWP 09-006.

� "Global Environment and Trade Policy," March 2009 for the

H ar vard Pr o j ect on I nternati onal Cli mate Agreements, directed byJoe Aldy & Rob Stavins; forthcoming, Cambridge UniversityPress. RWP08-058. HPIC A paper no.08-14.

� The Leakage/Competitiveness Issue In Climate Change PolicyProposals,´ in Climate Change, Trade and Investment: Is a CollisionInevitable?, forthcoming, Brookings Institution Press, Washington,DC, 2009, Lael Brainard, ed.. WCFIA WP 4792.

� "Is Trade Good or Bad for the Environment? Sorting out theCausality" with Andrew Rose, R ev iew of E c onomics and St atistics, 87, no.1, 2005. NBER WP No. 9201



4545

Appendices Appendices

1. Frankel-Rose econometrics

2. Characteristics of carbon-intensive

import penalties3. Possible conflicts between Climate

Change regime and WTO other

than border measures.



4646

Appendix 1: Frankel & Rose paper Appendix 1: Frankel & Rose paper

� Equations estimated:

±Growth equation(using gravity variable as IV for trade openness)

± Environmental quality equation(using factor endowments as IV for growth)



4747

Construction of IV for opennessConstruction of IV for openness

First-stage regression of gravity equation

� log(Tradeij/GDPi) = - .94 log(distanceij) + .82 log(pop j) + .53 Langij(.05) (.02) (.11)

+ .64 Border ij - .27 log(Ai A j) - .47 # Landlockedij + uij

(.21) (.01) (.08)

� Equation estimated for 1990.� Number of Obs. = 4052.� R2 = .28 (Robust standard errors in parentheses.)

Computation of Instr umental Variable

� Take exponent of fitted values of bilateral trade and sum acrossbilateral trading partners: 7 j exp [Fitted log(Tradeij/GDPi) ] .

� Correlation (trade ratio, generated IV) = .72





4949

A ppendix 2 A ppendix 2 ± ±

I classify characteristics of possible border I classify characteristics of possible border

measures into 3 categories, named by color:measures into 3 categories, named by color:

(1) ³White´ category: those that

seem reasonable & appropriate.(2) ³Black´ category: those that seem

dangerous, in that they are likely

to become an excuse for protectionism.

(3) ³Grey´ category:

those that fall in between.



5050

French President Sarkozy:French President Sarkozy:

� ³«if large economies of the world do not engagein binding commitments to reduce emissions,European industry will have incentives to relocate

to such countries«The introduction of a parallelmechanism for border compensation againstimports from countries that refuse to committo binding reductions therefore appears essential, ± whether in the form of a tax adjustment or

± an obligation to buy permits by importers.

� This mechanism is in any case necessary in order to induce those countries to agree on such acommitment.´ letter to Barroso, January 2008



5151

Black (inappropriate) border Black (inappropriate) border measures include:measures include:

� Unilateral measures applied by countries that are notparticipating in the Kyoto Protocol or its successors.

� Judgments as to findings of fact made by politicians,vulnerable to pressure from interest groups for protection.

� Unilateral measures to sanction an entire country.

� Import barriers against products that are removed fromthe carbon-intensive activity, such as firms that useinputs that are produced in an energy-intensive process.

� Subsidies -- whether in the form of money or extra permitallocations -- to domestic sectors that are considered tohave been put at a competitive disadvantage.



5252

US Energy Independence & Security Act 2007US Energy Independence & Security Act 2007

� ³limits US government procurement

of alternative fuel to those from which the

lifecycle greenhouse gas emissions are equal

to or less than those from conventional fuel

from conventional petroleum sources.´

Canada¶s oil sands are vulnerable.(Section 526)

Source: FT , Mar. 10,

2008



5353

The Gray (intermediate)The Gray (intermediate)measures include:measures include:

� Unilateral measures that are applied in theinterim before there has been time for multilateral negotiation over a set of guidelines for border measures.

y The import penalties might follow the formof existing legislation on countervailingduties (CVDs).

Appendix 3:Appendix 3:



5454

Appendix 3: Appendix 3:Potential conflicts of GCC policy withPotential conflicts of GCC policy with

ot her ot her aspects of WTO regimeaspects of WTO regime

� Efficiency standards &the Technical Barriers to Trade agreement.

� Agreementon Subsidies & Countervailing Measures

� Agreement on Agriculture

� Labeling requirements



5555

Potential conflicts with other aspects of WTOPotential conflicts with other aspects of WTOregimeregime

� Efficiency standards as part of a country¶sprogram to reduce emissions, e.g., fuelstandards for autos

± Permissible under WTO, even if with side-effect of benefiting, e.g., Japanese productsover EU or US exports, provided no needlessdiscrimination.

± But there is also a more restrictive TechnicalBarriers to Trade agreement, favoring widelyaccepted international standards.





5757

Potential conflicts with other aspects of WTO regime, cont.:Potential conflicts with other aspects of WTO regime, cont.:

Agreement on Agriculture Agreement on Agriculture

� The Doha Round, if successful, would involvelimits on massive agricultural subsidies.

� Payments under environmental programsshould be ³in the green box´: exempt fromban on subsidies.

± Subsidies for carbon sequestration in forestry okay ± or for the reduction of methane emissions in agriculture

± but exemptions for handouts to favored sectors such as ethanolshould not be allowed unless scientifically found environmentallybeneficial in reality rather than in name alone.



5858

Potential conflicts with other aspects of WTO regime, cont.:Potential conflicts with other aspects of WTO regime, cont.:

Labeling requirementsLabeling requirements

� TBT agreement (Technical Barriers to Trade) clearly allows non-discriminatory labeling, e.g., according to energy efficiency.

� But WTO law could be interpreted as not allowing a governmentto require labels specifying greenhouse gas content in the

production process.� I believe in letting consumers decide some issues with the aid of eco-labeling, rather than leaving no options in between voting &window-breaking for people who want to express their views.

� There is always the risk that labeling is politically manipulated.� But it is less intrusive than import restrictions.

(EU labeling of GMOs, while lacking adequate scientificfoundation, is a better way of venting strong European feeling onthe subject than outright bans on imports from the US.)

� It would be desirable for the WTO to establish rules for labeling.



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