Environmental and Resource Economics

, Volume 39, Issue 2, pp 55-74

First online:

Carbon leakage revisited: unilateral climate policy with directed technical change

  • Corrado Di MariaAffiliated withUniversity College Dublin Email author 
  • , Edwin van der WerfAffiliated withKiel Institute for the World Economy

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Using a stylized theoretical model, we argue that current economic analyses of climate policy tend to over-estimate the degree of carbon leakage, as they abstract from the effects of induced technological change. We analyse carbon leakage in a two-country model with directed technical change, where only one of the countries enforces an exogenous cap on emissions. Climate policy induces changes in relative prices, that cause carbon leakage through a terms-of-trade effect. However, these changes in relative prices also affect the incentives to innovate in different sectors. This leads to a counterbalancing induced-technology effect, which always reduces carbon leakage. We therefore conclude that the leakage rates reported in the literature may be too high, as these estimates neglect the effect of price changes on the incentives to innovate.


Climate Policy Carbon Leakage Directed Technical Change International Trade

JEL Classification

F18 O33 Q54 Q55