To buy or to do it yourself? Pollution policy and environmental goods in developing countries

We analyse the effects of emissions taxes set by a developing country within a two-country model, with two asymmetric downstream firms and a foreign upstream eco-industry, and under the assumption that the more efficient firm may either obtain the environmental technology from the foreign innovator, or engage in abatement effort or finally do not abate at all. A tougher climate policy may become the key driver for inducing the more efficient firm to engage in production of the abatement technology, leading also to a fall in total emissions. The impact on aggregate welfare is not clear-cut and heavily depends on firms’ heterogeneity: only if the cost asymmetry is low enough the transition to the mixed equilibrium with one licensee and the other firm exerting abatement effort would make the society better off.