Optimizing Voluntary Deforestation Policy in the Face of Adverse Selection and Costly Transfers

Motu Working Paper No.10-04

47 Pages Posted: 10 Aug 2010 Last revised: 12 Aug 2010

See all articles by Suzi Kerr

Suzi Kerr

Motu Economic and Public Policy Research Trust

Arthur van Benthem

University of Pennsylvania - Business & Public Policy Department

Date Written: August 9, 2010

Abstract

As part of international climate change policy, voluntary opt-in programs to reduce emissions in unregulated sectors or countries have spurred considerable discussion. Since any regulator will make errors in predicting baselines, adverse selection will reduce efficiency since participants will self-select into the program. In contrast, pure subsidies lead to full participation but require large financial transfers; this is a particular challenge across countries. A global social planner facing costless transfers would choose such a subsidy to maximize efficiency. However, any actual policy needs to be individually rational for both the buying (industrialized) and selling (developing) country. We present a simple model to analyze this trade-off between adverse selection and infra-marginal transfers. The model leads to the following findings. First, extending the scale of voluntary programs both improves efficiency and reduces transfers. Second, the set of individually rational and Pareto efficient policies typically features a combination of credit discounting and stringent assigned baselines which reduce efficiency. Third, if the industrialized countries can be persuaded to be more generous, the feasible policy set can come close to the globally efficient policy to avoid deforestation.

Keywords: Voluntary opt-in, adverse selection, deforestation, offsets, emissions trading, REDD

JEL Classification: Q54, Q56

Suggested Citation

Kerr, Suzi and van Benthem, Arthur, Optimizing Voluntary Deforestation Policy in the Face of Adverse Selection and Costly Transfers (August 9, 2010). Motu Working Paper No.10-04. Available at SSRN: https://ssrn.com/abstract=1655568 or http://dx.doi.org/10.2139/ssrn.1655568

Suzi Kerr (Contact Author)

Motu Economic and Public Policy Research Trust ( email )

Level 1, 93 Cuba Street
P.O. Box 24390
Wellington, 6142
New Zealand
+64 4 383 4250 (Phone)
+64 4 383 4270 (Fax)

Arthur Van Benthem

University of Pennsylvania - Business & Public Policy Department ( email )

3641 Locust Walk
Philadelphia, PA 19104-6372
United States
215-898-3013 (Phone)

HOME PAGE: http://bepp.wharton.upenn.edu/profile/21174/

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