General equilibrium with externalities and tradable licenses

Abstract

Within a general equilibrium setting, we consider an economy where externalities arise from the use of common resources. We show that quantity regulation presents problem of equilibrium existence. Then, we consider a cap and trade system on the consumption of commodities that may originate externalities. Moreover, when permissions to consume these commodities are allocated among consumers and can be costless traded, we get existence of equilibrium. However, equilibrium allocations may be, in general, inefficient. Next, we define different core solutions and we show that if externalities do not appear below a given level of consumption then any equilibrium allocation is in the core and, in particular, it is efficient