Locational Choices of Firms and Decentralized Environmental Policy with Various Instruments

Abstract Suppose there exists a federation with a given number of mobile firms generating waste emissions in the jurisdiction in which they locate. This paper demonstrates that if jurisdictions use emission taxes or marketable emission rights to control pollution within their boundaries and distribute the revenues captured by these instruments in a socially efficient way, firms locate efficiently, taking their pollution externalities into account. Decentralized environmental policy relying on direct controls, however, prevents locational efficiency of mobile firms. Furthermore, if jurisdictions are small, decentralized environmental policy with emission taxes and marketable pollution rights also support an efficient environmental quality, while a policy using direct controls sets too high emission standards.