Environmental and Resource Economics

, Volume 68, Issue 1, pp 129–173 | Cite as

Self-Enforcing Intergenerational Social Contracts for Pareto Improving Pollution Mitigation

  • Nguyen Thang Dao
  • Kerstin Burghaus
  • Ottmar Edenhofer


We consider, in an overlapping generations model with an environmental externality, a scheme of contracts between any two successive generations. Under each contract, agents of the young generation invest a share of their labor income in pollution mitigation in exchange for a transfer in the second period of their lives. The transfer is financed in a pay-as-you-go manner by the next young generation. Different from previous work we assume that the transfer is granted as a subsidy to capital income rather than lump sum. We show that the existence of a contract which is Pareto improving over the situation without contract for any two generations requires a sufficiently high level of income. In a steady state with social contracts in each period, the pollution stock is lower compared to a steady state without contracts. Analytical and numerical analysis of the dynamics under Nash bargaining suggests that under reasonable conditions, also steady state income and welfare are higher. Delaying the implementation of a social contract for too long or imposing a contract with too low mitigation can be costly: Net income may inevitably fall below the threshold in finite time so that Pareto improving mitigation is no longer possible and the economy converges to a steady state with high pollution stock and low income and welfare. In the second part of the paper, we study a game theoretic setup, taking into account that credibly committing to a contract might not be possible. We show that with transfers granted as a subsidy to capital income, there exist mitigation transfer schemes which are both Pareto improving and give no generation an incentive to deviate from any of its contracts even in a dynamically efficient economy. Social contracts coexist with private savings.


OLG models Pollution Mitigation Social contract Pareto improvement Self-enforcing 

JEL Classification

D62 D64 E21 Q54 


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Copyright information

© Springer Science+Business Media Dordrecht 2017

Authors and Affiliations

  • Nguyen Thang Dao
    • 1
  • Kerstin Burghaus
    • 1
  • Ottmar Edenhofer
    • 1
    • 2
    • 3
  1. 1.Mercator Research Institute on Global Commons and Climate ChangeBerlinGermany
  2. 2.Potsdam Institute for Climate Impact ResearchPotsdamGermany
  3. 3.Department of Economics of Climate ChangeTechnical University of BerlinBerlinGermany

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