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Economics Research Institute Study Paper




Utah State University Department of Economics

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We first review the literature pertaining to the protection of the modem sector in developing countries (DCs). We then discuss the nexuses between protection, economic dualism, and optimal environmental policy in DCs. Next, in the theoretical part of the paper, we construct a dynamic model of the environmental policy formulation process in a stylized DC in which there is a balance of trade deficit, and a tariff that protects the modem-also the import competing and the polluting-sector. The employment and output effects of three different pollution taxes are analyzed. These taxes incorporate different assumptions about the DC government's ability to commit to its announced course of action. The taxes are characterized, the dependence of these taxes on the extant tariff is studied, and the conditions which call for an activist policy, irrespective of the length of time to which the government can commit to its announced policy, are specified. Our analysis shows that the dynamic inconsistency of some optimal programs and the existence of the tariff can-either singly or collectively-prevent the DC government from attaining its employment and environmental goals.