Climate policy and border tax adjustments: Might industrial organization matter?

In this paper, analysis is presented relating to the impact of border tax adjustments for climate policy on the problem of carbon leakage, and the related issue of competitiveness of energy-intensive industries. Compared to the current literature, these policies are set in the context of a vertically-related market characterized by successive oligopoly. Specifically, it is shown that an appropriate border tax adjustment depends on the incidence of domestic climate policy, the nature of competition in upstream and downstream sectors, as well as the basis for assessing the trade neutrality of any border tax adjustment. If trade neutrality is defined in terms of market volume, even though carbon leakage is reduced, domestic firm competitiveness cannot be maintained. This compares to defining trade neutrality in terms of market share, which results in domestic competitiveness being maintained and global carbon emissions being reduced. In either case, consumers incur deadweight losses.