Decentralized Environmental Regulation in a Model with Increasing-Returns-to-Scale

Abstract

In economics, homothetic functions are generally used to represent production. Homogeneous production functions are a subset. A production function is homogeneous of degree α when all inputs are changed in the same proportion and resulting output changes by the αth power of the input change. Convention envisions homogeneity of degree 1, constant-returns-to-scale. Herein, we alter convention for increasing-returns-to-scale, α > 1. With aggregate increasing-returns-to-scale, symmetric regions, in a first-best Nash equilibrium, subsidize capital and overprotect the regional environment. Second-best fiscal structures are also examined. JEL Classification numbers: H20, H71, H73 Keywords: Environmental federalism, Inter-jurisdictional competition, Increasing-returns-to-scale, Homothetic functions.