Growth and Poverty Reduction in

Transcription

1 The Trade-Off Among Carbon Emssons, Economc Growth and Poverty Reducton n Inda VIJAY PRAKASH OJHA Rajv Gandh Insttute for Contemporary Studes (RGICS) New Delh, Inda August 2005 South Asan Network for Development and Envronmental Economcs (SANDEE) PO Box 8975, EPC 056 Kathmandu, Nepal SANDEE Workng Paper No SANDEE Workng Paper No I

2 Publshed by the South Asan Network for Development and Envronmental Economcs (SANDEE), PO Box 8975, EPC 056 Kathmandu, Nepal. Telephone: , Fax: SANDEE research reports are the output of research projects supported by the South Asan Network for Development and Envronmental Economcs. The reports have been peer revewed and edted. A summary of the fndngs of SANDEE reports are also avalable as SANDEE Polcy Brefs. Natonal Lbrary of Nepal Catalogue Servce: Vjay Prakash Ojha The Trade-off Among Carbon Emsson, Economc Growth and Poverty Reducton n Inda (SANDEE Workng Papers, ISSN 83-89; WP 2) ISBN: X Key Words. CGE model 2. Carbon Emssons 3. Economc Growth 4. Poverty Reducton 5. Inda 6. Clmate Change 7. Carbon Tax polcy 8. Tradable Emsson Permts The vews expressed n ths publcaton are those of the author and do not necessarly represent those of the South Asan Network for Development and Envronmental Economcs or ts sponsors unless otherwse stated. II SANDEE Workng Paper No. 2-05

3 The South Asan Network for Development and Envronmental Economcs The South Asan Network for Development and Envronmental Economcs (SANDEE) s a regonal network that brngs together analysts from dfferent countres n South Asa to address envronment-development problems. SANDEE s actvtes nclude research support, tranng, and nformaton dssemnaton. SANDEE s supported by contrbutons from nternatonal donors and ts members. Please see for further nformaton about SANDEE. SANDEE s fnancally supported by Internatonal Development Research Centre (IDRC), The Ford Foundaton, Mac Arthur Foundaton, Swedsh Internatonal Development Cooperaton Agency (SIDA) and Norwegan Agency for Development Cooperaton (NORAD). Techncal Edtor Prya Shyamsundar Englsh Edtor Carmen Wckramagae Comments should be sent to Vjay Prakash Ojha, Rajv Gandh Insttute for Contemporary Studes (RGICS) New Delh, Inda. Emal: [email protected] SANDEE Workng Paper No III

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5 TABLE OF CONTENTS. INTRODUCTION. The energy and emssons scene n Inda 2.2 Polces for carbon emssons reducton 3.3 The present study 5 2. MODEL STRUCTURE 6 2. Sectoral dsaggregaton The producton structure Technologcal change Carbon emssons Carbon Taxes Investment Captal stocks 2.8 Labour markets and wage rates 2.9 Factor ncomes and transfers 2.0 Income dstrbuton 2. Savngs Market equlbrum and macroeconomc closure Dynamcs 4 3. THE BUSINESS-AS-USUAL SCENARIO 5 3. The macro varables Poverty rato Energy use Carbon emssons 6 4. POLICY SIMULATIONS 6 4. Polcy smulatons and (TT) Polcy smulatons 2 and 2(TT) Polcy smulatons 3 and 3(TT) Polcy smulatons 4 and 4(TT) Polcy smulatons: caveats CONCLUSIONS AND POLICY IMPLICATIONS ACKNOWLEDGEMENTS 26 REFERENCES 27 APPENDIX 3 APPENDIX 2 36 APPENDIX 3 5 SANDEE Workng Paper No V

6 LIST OF TABLES Table : Energy consumpton n Inda (petajoules) 2 Table 2 : Energy consumpton and carbon emsson trends 3 Table 3 : The polcy smulatons 7 Table 4 : BAU Scenaro and the polcy smulatons: Selected 30 varables n 990 Table 5 : BAU Scenaro and the polcy smulatons: Selected 30 varables n 2020 Table 6 : Macro varables and carbon emssons of the BAU scenaro 3 Table 7 : Energy Use 3 Table 8 : Carbon tax rates 3 Table 9 : Energy Prces (percentage dfference from BAU scenaro) 32 Table 0 : Carbon emssons (percentage share of fossl fuels) 32 Table : Carbon emssons 32 Table 2 : Per capta carbon emssons 33 Table 3 : GDP 33 Table 4 : Consumpton 33 Table 5 : Poverty rato (n percent) 34 Table 6 : Number of poor 35 LIST OF FIGURES Fgure : The producton structure 8 Fgure 2 : BAU Scenaro: Growth rates of macro varables 35 Fgure 3 : BAU Scenaro: GDP/K & GDP/L 35 VI SANDEE Workng Paper No. 2-05

7 Abstract Ths study examnes the consequences of a) a domestc carbon tax polcy, and, b) partcpaton n a global tradable emsson permts regme on carbon emssons, Gross Domestc Product (GDP), and poverty, n Inda. The results, based a computable general equlbrum model of the Indan economy, show that a carbon tax polcy that smply recycles carbon tax revenues to households mposes heavy costs n terms of lower economc growth and hgher poverty. However, the fall n GDP and rse n poverty can be mnmzed or even prevented f the emsson restrcton target s a very mld one and tax revenues are transferred to the poor. A soft emsson reducton target s all that Inda needs to set for tself, gven that even a ten percent annual reducton n aggregate emssons wll brng down ts per capta emssons to a level far below global per capta emssons. On the other hand, partcpaton n the tradable emsson permts regme opens up an opportunty for Inda to sell surplus permts. Inda would then be able to use the revenues from permts to speed up GDP growth and poverty reducton and keep ts per capta emsson below the 990 per capta global emssons level. Key words: CGE model, carbon emssons, economc growth, poverty reducton, Inda, clmate change, carbon tax polcy, tradable emsson permts. SANDEE Workng Paper No VII

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9 The Trade-Off Among Carbon Emssons, Economc Growth and Poverty Reducton n Inda Vjay Prakash Ojha. Introducton The lnkage between carbon emsson reducton, economc growth and poverty allevaton s an ssue of mmense relevance for Inda. Inda s hghly vulnerable to global warmng and global clmate change caused by emssons of greenhouse gases such as carbon doxde. The adverse effects of clmate change would n all lkelhood retard the developmental process and aggravate poverty. At the same tme, Inda s per capta carbon emsson s already very low. It s 0.26 tonne per annum, whch s onefourth of the world average per capta emsson of one tonne per annum (Parkh et al, 99). In other words, Inda s per capta contrbuton to global warmng problem s a relatvely mnor one. However, because of ts large and growng populaton, ts total emssons are large. Internatonally, Inda s expected to stablze ts energy related carbon emssons. Moreover, the fact that Inda has a real stake n a global polcy regme to stablze global carbon emssons s beng realzed n Indan polcy crcles. More specfcally, Indan polcy makers are begnnng to see the need to understand the mplcatons for Inda of a Kyoto-type global emssons tradng regme. At the domestc level, Inda s concerned wth the reducton of carbon emssons whether a global system of tradable emsson permts materalzes or not. Ths concern, however, s a very long term one. Swtchng over to non-pollutng sources of energy such as, hydro and nuclear, s often mentoned as a strategy that wll sweep away the problem of carbon emssons. A medum term polcy opton such as a carbon tax, however, s vewed wth suspcon, largely because of ts lkely adverse mpact on economc growth and poverty reducton. For a low-ncome country lke Inda, the more pressng need obvously s achevng poverty reducton rather than controllng carbon emssons. Nevertheless, t would be worthwhle explorng how much, f at all, carbon taxes tradeoff growth and poverty reducton, and what compensatory mechansms can be bult nto the system to mtgate the undesrable effects of carbon taxes on GDP growth and poverty allevaton. Ths study seeks to answer three questons related to polcy trade-offs between carbon emsson reducton, growth and poverty: a) what are the economc and dstrbutonal mpacts of mposng carbon taxes when tax revenues are recycled back nto the economy? b) How do the effects on growth and poverty change f emsson targets are Inda s the ffth-largest emtter of fossl-fuel-derved carbon doxde, and ts total emssons grew at an annual average rate of almost 6 percent n the 990 s (Marland et al, 200). Moreover, Sagar (2002, 3925) argues that : the pressure already on them (developng countres), to show meanngful partcpaton s lkely to ntensfy n the contnung negotaton, makng t qute lkely that they wll have to take on some commtments to reduce ther greenhouse gas emssons n the post-kyoto phase. Even though ts (Inda s) annual per capta emssons for 998 of 0.3 tonnes of carbon are well below the global average of. tonnes per capta, the sze of ts (Inda s) aggregate emssons makes ts partcpaton n any future developng country commtment regme a foregone concluson. SANDEE Workng Paper No. 2-05

10 lowered and tax revenues are transferred drectly to the poor? And c) How are GDP growth, poverty and carbon emssons affected f Inda partcpates n a global tradable emssons regme? These ssues are addressed by usng a Computable General Equlbrum (CGE) Model of the Indan economy.. The energy and emssons scene n Inda In Inda, about 30% of the total energy requrements are stll met by the tradtonal or non-commercal sources of energy lke fuelwood, crop resdue, anmal waste and anmal draught power. The share of these non-commercal forms of energy n the total energy consumpton has, however, been on declne. It was as hgh as 50% n 970-7, but came down to only 33% n In other words, the energy consumpton pattern has been ncreasngly shftng n favor of the commercal forms of energy lke coal, refned ol, natural gas, and electrcty. So much so, that n the last four decades, growth rate of commercal energy consumpton has been hgher than that of the total energy consumpton. Coal tself accounts for more than 37% of the total energy consumpton n 990-9, wth the share of refned ol and natural gas beng about 8% and 5% respectvely. The non-fossl sources of energy, such as, hydro-electrcty has a small share of about 6.5%, wth the remanng 0.5% share of the total energy consumpton beng accounted for by the non-conventonal energy sources, such as, nuclear, wnd and solar power. In the two decades from 970 to 990, energy consumpton n Inda has more than doubled (table ). More mportantly, durng ths perod bomass, whch s a carbon neutral fuel (Ravndranath and Somsekhar, 995), has been ncreasngly substtuted by the fossl fuels, manly coal. Ths has resulted n a major ncrease n the level of carbon emssons n Inda (table 2 ). Table : Energy consumpton n Inda (petajoules) Year Lgnte 9 (0.39) 29 (0.48) 44 (0.62) 77 (0.85) 30 (.2) 26 (.22) 259 (.2) Coal 466 (29.77) 90 (3.8) 2222 (3.07) 324 (34.49) 420 (36.0) 8498 (48.07) 098 (47.58) Refned Ol & LPG 622 (2.63) 799 (3.3) 082 (5.3) 480 (6.34) 2035 (7.49) 283 (5.9) 3785 (7.68) Natural Gas 42 (0.85) 79 (.32) 86 (.20) 270 (2.98) 606 (5.2) 85 (4.6) 56 (5.39) Bomass 2492 (50.6) 282 (46.98) 3202 (44.77) 358 (38.83) 3866 (33.22) 4456 (25.20) 5052 (23.67) Hydropower 258 (5.24) 334 (5.56) 484 (6.77) 540 (5.96) 723 (6.2) 744 (4.2) 775 (3.62) Other 25 (0.5) 33 (0.55) 32 (0.45) 49 (0.54) 74 (0.64) 38 (0.78) 2 (0.99) Total 4924 (00) 6005 (00) 752 (00) 9059 (00) 636 (00) 7680 (00) 2437 (00) Notes:. Refned Ol and LPG ncludes non-energy use of gas and fuel ol for fertlser and petrochemcal producton. 2. For hydro, nuclear and renewables, energy s the coal equvalent for electrcty generaton 3. Other ncludes nuclear, wnd, solar etc. 4. The talczed fgures n the parantheses show the percentages wth respect to the total. Source : Author s estmates based on CMIE Energy and TEDDY (2002/03). 2 SANDEE Workng Paper No. 2-05

11 Table 2 : Energy consumpton and carbon emsson trends Year Energy consumpton (PJ) Net carbon emsson (MT) Gross carbon emsson (MT) Notes : Net carbon emsson excludes emssons from bomass combuston. Gross carbon emsson ncludes emssons from bomass combuston. PJ : petajoules, MT : metrc tons Source: Fsher-Vanden et al (997) & Marland, Gregg, Tom Boden, Robert J Andres (2003). In the 980s, the Indan economy grew at an average annual rate of 5%, wth ndustral output rsng at about 6.3% per year. Durng ths tme, Inda s commercal energy sector grew at about 6% a year, wth electrcty use growng faster at 9% annually. In the post-lberalzaton (.e., after 990-9) phase, the Indan economy averaged a hgher annual growth rate of about 6%. Inda s energy demand can only grow even more rapdly n the future on account of hgh prospectve economc growth, spreadng ndustral base, a rapd populaton growth and ncreasngly energy-ntensve consumpton patterns that results from hgher ncomes. In fact, projectons show that Inda s energy demand could ncrease four-fold by 2025, whle ts carbon emssons could ncrease sx-fold as tradtonal bomass fuels are replaced by hgher fossl fuel use..2 Polces for carbon emssons reducton The standard polcy measures for greenhouse gases abatement are bascally four - energy effcency mprovement measures, command-and-control measures (.e., mplementng emsson reducton targets by decree), domestc carbon taxes and an nternatonal emssons tradng regme of the knd envsaged for the Annex B countres 2 n the Kyoto protocol. Of these whle the frst one s, so to say, desrable per se, the other three are regarded as polcy alternatves. A lot of avodable CO 2 emssons s due to the rampant energy neffcency, whch, n turn s the result of energy subsdes stll prevalng n Inda, as n many other countres. However, snce the early nnetes, there s an ncreasng realzaton of the lnk between energy neffcency and unnecessary CO 2 emssons leadng to a worldwde declne n energy subsdes. In Inda also the energy subsdes have been reduced snce the onset of economc reforms n 99. The reducton n the energy subsdes notwthstandng fnal-use energy prces n Inda, agan as n many other countres, are stll well below the opportunty cost (Fscher and Toman, 2000). In fact, the energy prce reforms n Inda are far from complete, and not surprsngly, they have, as yet, had only an nsgnfcant mpact on energy effcency and, thereby, on carbon emssons (Sengupta and Gupta, 2004). 2 Annex B countres refer to the OECD countres, the countres n Central and Eastern Europe, and the Russan Federaton, whch have agreed to emssons reducton oblgatons under the Kyoto Protocol. The specfc emssons reducton commtments of these countres are lsted n Annex B of the Kyoto Protocol, hence they are referred to as Annex B countres. SANDEE Workng Paper No

12 Unlke the energy effcency mprovement measures, the other three measures for emssons abatement - command-and-control, carbon taxes and nternatonal emssons tradng - are n Inda not yet at the mplementaton stage. As far as nternatonal emssons tradng s concerned, Inda threw ts hat n the Kyoto rng a lttle too late. By the tme Inda acceded to the Kyoto protocol n August 2003 as a prelude to the eghth annual Conference of Partes, whch t was hostng, the protocol had already gone nto abeyance because of USA s wthdrawal from t. Gupta (2002) has nfact argued that had Inda been more proactve n ts approach and acceded to the Kyoto protocol n ts early phases, the Amercan stand of not jonng the protocol wthout any commtment from the developng countres would have become dffcult to mantan. And the turn of events could have been completely dfferent. Now (6 February 2005) that the Kyoto Protocal has come nto force, the ndustralzed countres are requred to cut ther combned emssons to 5% below 990 levels by the frst commtment perod, The developng countres have been absolved of any responsblty towards reducng emssons n the frst commtment perod. Ths, however, s no reason for developng countres clmate change should ultmately am at fxng polluton rghts or enttlements for each country accordng to some agreed upon equty prncples, and the Kyoto Protocol can be and may be vewed as a step n ths drecton (Chander, 2004: 272). In other words, once compettve emssons trade among Annex B countres s establshed, the developng countres wll be able to better assess the potental gans from such trade, and mght be tempted to partcpate n a global emssons trade n the post-kyoto phase of clmate change negotatons. The command-and-control measure,.e., enforcng carbon emsson reducton targets by fat s, not surprsngly, not regarded n Inda as feasble or desrable. Frstly, there are the usual arguments of command-and-control measures beng statcally and dynamcally neffcent as compared to say market-based nstruments, such as, carbon taxes (Pearson, 2000). Secondly, under the command-and-control measure, the economc cost of emsson abatement (arsng manly due to curtalment of output, gven lmted nput substtuton possbltes) represents a deadweght loss n welfare. On the other hand, n case of a market-based nstrument lke carbon taxes, the government can use the tax revenue n a varety of ways to generate benefts for the economy n addton to those resultng from reduced emssons, thereby, reducng the net loss n welfare. It can use the carbon tax to replace some other more dstortng tax and thus garner effcency gans for the economy,.e., reap double-dvdend (Pearson, 2000). Or what s more pertnent, n case of a developng economy lke Inda, t can use the tax revenue for targeted transfers to reduce poverty, or more specfcally, recycle the carbon tax revenue to the low-ncome groups to compensate the latter for the burden mposed on them by the carbon emsson reducton strategy. It follows that, although polcy acton n Inda for carbon emssons abatement, apart from the ongong energy prce reform, has not yet materalzed, the status-quo cannot be mantaned for long. Fortunately, the prelude to polcy acton,.e., nformed polcy dscusson has been ntated n the lterature on carbon emsson reducton strateges n Inda. Two polcy nstruments domestc carbon taxes and nternatonally tradable emsson permts have been dscussed n the lterature on Inda. For the latter, Murthy, Panda and Parkh (2000) have shown, usng an actvty analyss framework, that Inda stands to gan both n terms of GDP and poverty reducton, f the emsson permts are 4 SANDEE Workng Paper No. 2-05

13 allocated on the bass of equal per capta emsson. Fscher-Vanden et al (997) have used a CGE model to compare the mpacts of the two polcy nstruments on GDP, and found that tradable permts are preferable to carbon taxes. In a comparson of the two types of schemes for emsson permts the grandfathered emsson allocaton scheme n whch permts are allocated on the bass of 990 emssons, and the equal per capta emsson allocaton scheme they found the latter to be more benefcal for Inda. Incdentally, the CGE model of Fscher-Vanden et al (997) s based on the assumpton of a sngle representatve household. Hence, t does not reflect the mpact of carbon taxes on ncome dstrbuton or on the poverty rato..3 The present study In the present study we have used a top-down, quas-dynamc CGE model, wth an endogenous ncome dstrbuton mechansm, for the Indan economy. Our model has been formulated wth a vew to capture the adverse effects of carbon taxes on GDP losses and the poverty rato through ncreased prces of fossl fuels (coal, refned ol and natural gas). The non-unform ncreases n the prces of fossl fuels wll lead to some fuel swtchng as well as an overall fuel reducng effect. Our model wll effectvely capture the net mpact of these effects on GDP as well as ncome dstrbuton. Compared to the model of Murthy, Panda and Parkh (2000), ours s a neoclasscal prce drven CGE model, deally suted for smulatng the mpact of a carbon tax and of a system of global trade n carbon emsson quotas. And compared to the CGE model of Fscher- Vanden et al (997) 3 whch s based on the assumpton of a sngle representatve household, our model has an elaborate ncome and consumpton dstrbuton mechansm, n whch factoral ncomes are frst mapped onto 5 ncome percentles and then onto 5 consumpton expendture classes. The bottom consumpton expendture class corresponds to those below the poverty lne so that we get a measure of the poverty rato as well. As s usually done n a CGE modelng analyss, we frst generate a busness-as-usual scenaro, and then smulate alternatve polcy scenaros for assessng the consequences for growth and poverty n Inda of dfferent carbon emsson reducton strateges. The specfc polcy questons to whch the polcy scenaros are addressed are the followng: () () What s the mpact of mposng carbon taxes to ensure that aggregate carbon emssons do not exceed the 990 levels n each perod durng the tme span gven that the carbon tax revenues for each perod are recycled to the households by way of addtons to personal dsposable ncome? What s the mpact of mposng carbon taxes to brng about a 0% annual reducton n aggregate carbon emsson levels durng the tme span gven that the carbon tax revenues for each perod are recycled to the households? () What s the mpact of partcpatng n an nternatonally tradable permts scheme n whch the carbon emsson allowances are allocated on the bass of equal per capta emssons allocaton whch are kept fxed to the partcpatng country s 990 populaton, when the revenues earned, f any, from the permts are recycled to the households? 3 The Fscher-Vanden et al (997) study uses a nne-sector CGE model of the Indan economy based on the Indan module of the Second Generaton Model (SGM) verson 0.0 detaled n Edmonds, Ptcher, Barns, Baron and Wse (993). SANDEE Workng Paper No

14 There are two varants consdered for each polcy queston mentoned above, one n whch the revenues earned from carbon taxes or sale of emsson permts are dstrbuted across household groups n proportons same as those for the routne government transfers -.e., the case of across-the-board transfers, and the other n whch these revenues are transferred exclusvely to a target group, whch conssts of the four lowest ncome classes (decles) or the poorest 40% households n the economy-.e., the case of targeted transfers 4. The rest of the paper s organzed as follows. Secton 2 presents the overall structure of the model, wth specal emphass on the producton structure, the producton-co 2 emsson lnkages and the ncome dstrbuton mechansm. Secton 3 presents the man features, such as GDP growth and emssons growth, of the busness-as-usual (BAU) scenaro. In secton 4, we report the smulaton results of eght alternatve polcy scenaros n comparson wth the BAU scenaro. Secton 5 concludes and suggests polcy mplcatons of our results. Appendx gves the tables and fgures related to the BAU scenaro and the polcy smulatons. In Appendx 2 we present the equatons of the model. Appendx 3 descrbes the database of the model. 2. Model Structure Our model s based on a neoclasscal CGE framework that ncludes nsttutonal features pecular to the Indan economy. It s mult-sectoral and quas-dynamc. The overall structure of our model s smlar to the one presented n Mtra (994). However, n formulatng the detals of the model - the producton structure, the CO 2 emsson generaton and the ncome dstrbuton mechansm - we follow an eclectc approach, keepng n mnd the focus on the lnkages between nter-fossl-fuel substtutons, CO 2 emssons, GDP growth and poverty reducton. The model ncludes the nteractons of producers, households, the government and the rest of the world n response to relatve prces gven certan ntal condtons and exogenously gven set of parameters. Producers act as proft maxmzers n perfectly compettve markets,.e., they take factor and output prces (nclusve of any taxes) as gven and generate demands for factors so as to mnmze unt costs of output. The factors of producton nclude ntermedates, energy nputs and the prmary nputs - captal, land and dfferent types of labour. For households, the ntal factor endowments are fxed. They, therefore, supply factors nelastcally. Ther commodty-wse demands are expressed, for gven ncome and market prces, through the Stone-Geary lnear expendture system (LES). Also households save and pay taxes to the government. Furthermore, households are classfed nto fve rural and fve urban consumer expendture groups. The government s not asssumed to be an optmzng agent. Instead, goverment consumpton, transfers and tax rates are exogenous polcy nstruments. The total CO 2 emssons n the economy are determned on the bass of the nputs of fossl fuels n the producton process, the gross outputs produced and the consumpton demands of the households and the government, usng fxed emsson coeffcents. 4 For a detaled descrpton of the two types of transfer of revenues earned through carbon taxes or sale of permts the across-the-board transfers and the targeted transfers see secton SANDEE Workng Paper No. 2-05

15 The rest of the world supples goods whch are mperfect substtutes for domestc output to the Indan economy, makes transfer payments and demands exports. The standard smallcountry assumpton s made mplyng that Inda s a prce-taker n mport markets and can mport as much as t wants. However, because the mported goods are dfferentated from the domestcally produced goods, the two varetes are aggregated usng a constant elastcty of substtuton (CES) functon, based on the Armngton assumpton 5. As a result, the mports of a gven good depend on the relaton between the prces of the mported and the domestcally produced varetes of that good. For exports, a downward slopng world demand curve s assumed. On the supply sde, a constant elastcty of transformaton (CET) functon s used to defne the output of a gven sector as a revenue-maxmzng aggregate of goods for the domestc market and goods for the foregn markets. Ths mples that the response of the domestc supply of goods n favor or aganst exports depends upon the prce of those goods n the foregn markets vs-à-vs ther prces n the domestc markets, gven the elastcty of transformaton between goods for the two types of markets. The model s Walrasan n character. Markets for all commodtes and non-fxed factors - captal stocks are fxed and ntersectorally mmoble - clear through adjustment n prces. However, by vrtue of Walras law, the model determnes only relatve prces. The overall prce ndex s chosen to be the numerare and s, therefore, normalzed to unty. Wth the (domestc) prce level fxed exogenously, the model determnes endogenously both the nomnal exchange rate and the foregn savngs n the external closure (Robnson, 999). Fnally, because the aggregate nvestment s exogenously fxed, the model follows an nvestment-drven macro closure, n whch the aggregate savngs -.e., the sum of household, government and foregn savngs - adjusts, to satsfy the savng-nvestment balance. 2. Sectoral dsaggregaton Our model s based on an eleven sector dsaggregaton of the Indan economy : () Agrculture (agrcult), () Electrcty (elec), () Coal (coal), (v) Refned Ol (refol), (v) Natural Gas (nat-gas), (v) Crude Petroleum (crude-pet), (v) Transport (trans), (v)energy Intensve Industres (enernt), (x) Other Intermedates ncludng captal goods (othernt), (x) Consumer goods (cons-good), (x) Servces (servces). There are 5 energy sectors elec, coal, refol, nat-gas, crude-pet and 6 non-energy sectors - agrcult, trans, enernt, othernt, cons-good and servces. The sectoral dvson of the economy was decded after a perusal of the sectoral dsaggregaton n varous other models - such as EPPA, SGM and Murthy, Panda and Parkh (2000) - and bearng n mnd the focus of our model on the possbltes of fuel swtchng n the provson of energy nputs n the producton process. 5 The Armngton assumpton states that commodtes mported and exported are mperfect susbttutes of domestcally produced and used commodtes. Ths assumpton s necessary to take nto account twoway trade and, at the same tme, avod an unrealstcally hgh degree of specalsaton (Armngton, 969). SANDEE Workng Paper No

16 2.2 The producton structure Producton technologes for all sectors are defned usng nested CES functons, wth the nestng structure of nputs dfferng across the sectors, or groups of sectors as n the EPPA model (Babker et al, 200 and Yang et al, 996). For the transport, energy ntensve ndustres, other ntermedates, consumer goods and servces sectors, the followng tree descrbes the producton structure (fg. ). Fg. : The producton structure Domestc Sectoral Gross Output (X) Non-Energy Intermedate (N) Energy-Labour-Captal Aggregate ( Z ) Inputs Aggregate Domestc Intermedate Inputs Aggregate (Nd ) Imported Intermedate Inputs Aggregate (Nm) Energy-Aggregate (EA) Value-Added (VA) Electrcty (E) Non-Electrcty (NE) K Ls Lw Coal (CL) Gas (GS) Refned Ol (RO) Note : K Captal ; Ls Self-employed labour ; Lw Wage-labour. In case of the remanng sectors, there are mnor varatons n the nestng structure. For coal, natural-gas, crude petroleum and refned ol, there s an extra layer at the top combnng non-fxed factor nputs aggregate (NF) and fxed factor nput (f) to produce domestc gross output. In the electrcty sector, the non-electrcty nputs bundle s formed n two stages nstead of one.e., frst coal and refned ol are combned to form coal-ol aggregate (COIL) and the latter subsequently combnes wth natural gas (GS) to form non-electrcty nputs aggregate (NE). In agrculture, at the top level of the nestng structure, the domestc gross output s produced as a combnaton of resource 8 SANDEE Workng Paper No. 2-05

17 ntensve bundle (RS) and value added (VA), where the former s made up of land and energy-materals (EM) aggregate. The latter n turn s an Armngton combnaton of non-energy ntermedate nputs bundle (N) and energy aggregate (EA). In other words, for each sector there s a nested tree-type producton functon. At each level of the nested producton functon, the assumpton of constant elastcty of substtuton (CES) and constant returns to scale (CRS) s made 6. For every level, the producer s problem s to mnmze cost (or maxmze proft) gven the factor and output prces and express demands for nputs. It follows that for every level, the followng three relatonshps hold : the CES functon relatng output to nputs, the frst order condtons, and the product exhausaton theorem. For all the levels taken together, the producton system thus determnes, for each sector, the gross domestc output, the nput demands, value-added as well as the demands for wage-labour and self-employed labour Technologcal change Energy-savng technologcal progress s ncorporated n our model by makng the autonomous energy effcency mprovement (AEEI) assumpton used n other carbon emsson reducton models such as, GREEN (Burnaux et al, 992) and EPPA (Babker et al, 200). As n the EPPA and GREEN models, we also assume that AEEI occurs n all sectors except the prmary energy sectors (coal, crude petroleum and natural gas) and the refned ol sector. The GREEN model assumes a one percent annual ncrease n energy effcency, whle n the EPPA model there s an even hgher annual growth rate of energy effcency.4 percent ntally, though t slows down over tme accordng to a logstc functon. However, we are of the opnon that the exogenous annual growth rates of energy effcency assumed for Inda n these models are overly optmstc. Inda has embarked on the path towards energy effcency after 99, but ts record n energy effcency mprovement n the last one decade s far from encouragng (Sengupta and Gupta, 2004). We have thus assumed a much more modest annual growth rate of energy effcency for the Indan economy.e., 0.5 percent. 2.4 Carbon emssons CO 2 s emtted owng to burnng of fossl fuel nputs. The major fossl fuels used n Inda are coal, natural gas, refned ol and crude petroleum 8. In addton to CO 2 emtted by fuel combuston, there may be CO 2 emanatng from the very process of output generaton. For example, the cement sector (a part of the enernt sector n our sectoral classfcaton) releases CO 2 n the lmestone calcnaton process. Fnally, CO 2 emssons also result from the fnal consumpton of households and the government. 6 Although, the domestc and ntermedate nputs aggregates themselves are fxed-coeffcents aggregates of domestc and mported nputs respectvely from the non-energy sectors. 7 The captal stock n a partcular perod s gven, so that the frst-order condton effectvely determnes the sectoral return on captal. 8 Note that crude petroleum s used exclusvely as an nput n the refned ol sector (see Appendx 2). SANDEE Workng Paper No

18 We use fxed CO 2 emsson coeffcents to calculate the sector-specfc CO 2 emssons from each of the three sources of carbon emssons. For the total CO 2 emssons generated n the economy, we frst aggregate the emssons from each of the sources over the eleven sectors and subsequently sum up the aggregate emssons across the three sources. 2.5 Carbon Taxes Carbon taxes are applcable only on the CO 2 emtted n the producton process (.e., on the frst two sources of carbon emssons), not on the fnal consumpton of households and the government (the thrd source of carbon emssons). Carbon taxes are based on the proporton of each fuel s carbon content,.e., Rs per ton of carbon emtted. The carbon tax rate multpled by a sector s carbon emsson gves the carbon emsson tax payments by that sector. Summng across sectors we get the total carbon tax payments, whch s then recycled to the household sector as addtonal transfer payments by the government. (In the BAU scenaro, the carbon tax rate s fxed at zero and there are, therefore, no carbon tax payments). It may be noted that, the producer s cost functon s modfed to nclude the carbon emsson taxes so that these taxes nduce a substtuton n favor of lower carbon-emttng fossl fuels (see equatons n Appendx 2). A carbon tax s translated nto prce ncreases for each of the fossl fuels coal, refned ol and natural gas. The prce ncrease s maxmum for coal whch has the hghest carbon content, followed by refned ol and natural gas. In response, a cost mnmzng (or a proft maxmzng) producer changes the nput mx away from coal and towards refned ol and natural gas. 2.6 Investment Publc and prvate nvestment s fed nto the model as two dstnct consttuents of the total nvestment. There are fxed share parameters for dstrbutng the aggregate nvestment across sectors of orgn. However, the allocaton mechansms for sectors of destnaton are dfferent n the two cases of publc and prvate nvestment. For publc nvestment there s dscretonary allocaton, and the allocaton ratos are set exogenously. On the other hand, for prvate nvestment the allocaton ratos are gven n a partcular perod, but are revsed from perod to perod on the bass of sectoral relatve returns on captal. The relatve return on captal n any sector s gven by the normalzaton of the mplct prce of captal n that sector to the economy-wde returns. Ths rule does not mply full factor prce equalzaton, but only a sluggsh reallocaton of nvestment from sectors where rate of return s low to ones havng hgher rates of return. Needless to say, ths bfurcaton of total nvestment nto ts publc and prvate components wth ther dfferng allocaton mechansms s an attempt to approxmate the way nvestments are actually made n the Indan economy. Incdentally, t also allows for publc nvestments to be drected towards strategc sectors dsregardng short-run consderatons of proft maxmzaton. 0 SANDEE Workng Paper No. 2-05

19 2.7 Captal stocks Sectoral captal stocks are exogenously gven at the begnnng of a partcular perod. However, our model s recursvely dynamc, whch means that t s run for many perods as a sequence of equlbra. Between two perods there wll be addtons to captal stocks n each sector because of the nvestment undertaken n that sector n the prevous perod. More precsely, sectoral captal stocks for any year are arrved at by addng the nvestments by sectors of destnaton, net of deprecaton, n year t- to the sectoral captal stocks at the begnnng of the year t Labour markets and wage rates For the non-agrcultural sectors (.e. sectors 2-), the total labour supply avalable for employment s exogenously gven. From ths stock of labour those who are unable to fnd wage-employment resort to self-employment. In the agrcultural sector, on the other hand, there s a fxed supply of self-employed labour (those ownng land of whatever sze) and, over and above, there s a pool of labour (landless) watng to to fnd employment. Those who are unable to fnd wage employment become openly unemployed, rather than resort to self-employment. The real wage rates, for wage labour, n the current perod are ndexed to the prevous perod s wage rates. Ths rule s appled to both the agrcultural and non-agrcultural wage rates. In the non- agrcultural sectors, those unable to fnd wage employment (at the adjusted wage rate) spll over nto the pool of self-employed labour to clear the labour market. In other words, there s nflexble wage (keynesan) n the organzed sector and a market-clearng remuneraton rate for the self-employed n the unorganzed sector (neo-classcal). 2.9 Factor ncomes and transfers Factor ncomes -.e, self-employment ncomes, wage ncomes, ncomes from rent accrung to fxed factors ncludng land, and captal (proft) ncomes are generated by summng the product of factor remuneratons and ther employment levels over all the sectors. From these, taxes are netted out to arrve at dsposable ncomes. To these fve types of ncome s added a sxth type transfer payments by government and rest of the world. Through these transfer payments the government can recycle the total carbon tax revenues to the households. Factor ncomes by regon rural and urban are worked out for each of the sx types of ncome usng fxed shares to splt these factor ncomes nto two parts, one for the rural and the other for the urban area Income dstrbuton The treatment of ncome and consumpton dstrbuton n our model s qute elaborate, as t should be. However, t needs to be stressed that there s hardly any degree of freedom n modelng the dstrbuton of ncome n Inda. The mechancs of the ncome dstrbuton s strctly guded by the type of data avalable. A detaled account of the 9 The parametrc values of the rural-urban splt ratos are obtaned from Pradhan et al (2000), and add up to one for each of the sx sources of ncome. SANDEE Workng Paper No. 2-05

20 ncome dstrbuton module s provded n Narayana, Parkh and Srnvasan (99) and Mtra (994). Here we outlne the man steps. (In what follows the account s the same for the rural and urban areas, and so we shall not make a dstncton between the two). Step - We start wth the factoral ncomes and map them onto ncomes accrung to 5 ncome classes 0 usng a constant share ncome allocaton scheme (obtaned from secondary data sources of the Indan economy see Appendx 3) for all the 6 types of ncome self-employment ncome, wage ncome, captal ncome, ncomes from land and fxed factors and transfer payments by government and rest of the world. Gven Y h, the ncome accrung to class h, and q h, the share of households n class h n the total populaton (also known from data sources), we compute the mean and varance of ncome. It may be noted here that, n case of across-the-board transfers of revenues earned from carbon taxes or sale of emsson permts, these revenues are dstrbuted across the 5 ncome classes accordng to the same constant share ncome allocaton scheme applcable to the transfer payments above. To put t another way, n the across-theboard transfers case, the carbon tax or permt revenues are smply treated lke addtonal government transfers, and, hence, dstrbuted across the 5 ncome classes n proportons same as those for routne government transfers. On the other hand, n case of the targeted transfers, the carbon tax or the permt revenues are dstrbuted exclusvely and equally to the lowest four ncome decles. That s to say, each of the lowest four ncome classes (decles) receve 25% of the revenues earned from carbon taxes or sale of permts, whle the remanng ncome groups or classes get nothng. Fnally, t must be stressed that, the lowest four ncome decles or the poorest 40% of the populaton are conceptually and quanttatvely dfferent from what we call the poverty rato (defned below n Step3). Whle the former specfes the relatve ncome poston of a secton of the populaton, the latter s the share of populaton at or below a predefned mnmum level of consumpton necessary for sustenance. The relatve ncome nequalty n most economes change slowly, but that does not mean that poverty cannot be eradcated fast. The relatve ncome poston of the poor mght reman unchanged, but ther consumpton reach can be extended beyond the mnmum sustenance level. Hence, poverty rato can declne rapdly even when relatve ncome nequalty s stable. That sad, t must be recognzed that, n another sense whch s mportant n ths modelng exercse, there s an overlap between the two concepts. That s, f there s poverty n an economy, n the sense of absolute deprvaton of basc mnmum consumpton, t obvously exsts n the lower rungs of the ncome ladder. From the poverty removal 0 The 5 ncome classes are percentles taken n tens, fves and ones. The frst nne ncome classes are, from bottom to top, nne decles, followed by the 0 th class whch s more than 90 th percentle and upto 95 th percentle, and, fnally, we have the top fve ncome classes.e., the 96 th, 97 th, 98 th, 99 th and 00 th percentle. The constant shares.e., the exogenously gven splt ratos - for each ncome-type add up across the 5 ncome classes to one. 2 SANDEE Workng Paper No. 2-05

21 polcy pont of vew, therefore, t s the lowest four or three or two ncome decles that have to be targeted. Step 2 - We frst make the assumpton that the dstrbuton of populaton accordng to per capta ncome and per capta consumpton expendture s bvarate log-normal. (a) Snce the dstrbuton of ncome and consumpton expendture s assumed to be bvarate log-normal, the mean and varance of the logarthm of per capta ncome s computed from the mean and varance of ncome of Step. (b) The bvarate lognormalty assumpton mples that log ncome and log consumpton expendture are lnearly related, so the mean and varance of log per capta consumpton expendture can be easly calculated. Step 3 Gven the mean and standard devaton of log ncome and log consumpton expendture, we derve the dstrbutons of populaton, consumpton and total ncome by 5 consumpton classes. (The upper boundares of the 5 consumpton classes cel, cel 2, cel 3, cel 4, cel 5 are taken from the consumpton expendture data publshed by the NSSO (Natonal Sample Survey Organzaton)-45 th Round). More specfcally, we fnd the shares of () populaton () consumpton and () total ncome accrung to the households that fall under expendture level cel k, for k =,2,,5, usng the standardzed cumulatve normal dstrbuton. The poverty rato s the share of populaton wth per capta consumpton expendture less than or equal to cel 5. Step 4 - From the cumulatve shares of the fve consumpton expendture classes we arrve at the per capta expendture and ncome for each of these classes by smply takng the dfference between the cumulatve shares of the class n queston and the precedng class. Step 5 Once we have the per capta consumpton expendture for each of the 5 consumpton classes, we use the Stone-Geary lnear expendture system to determne separately the sectoral per capta consumpton demands for each of these classes. Step 6 The sectoral per capta consumpton demands for each class are then multpled by the class-specfc populaton, and the resultng product aggregated, frst, over the fve classes and, then over, the two regons to arrve at the commodtywse consumpton demands. 2. Savngs Total household savngs n the economy s an aggregate of the savngs of the 0 urban and rural consumpton expendture classes. For each of the fve rural and fve urban classes, household savngs s determned resdually from ther respectve budget constrants, whch state that household ncome s ether allocated to household consumpton or to household savngs. Government savngs s obtaned as sum of the tax and tarff revenues, less the value of ts consumpton and transfers. Government revenue orgnates from the followng fve sources: taxes on domestc ntermedates, tarffs on mported ntermedates, taxes on consumpton and nvestment, taxes on fnal mports and ncome taxes -.e., taxes on wage, self-employed and captal (proft) ncomes. All taxes (excludng carbon tax) are of the proportonal and ad valorem type, SANDEE Workng Paper No

22 and all the tax rates are exogenously gven. Government expendture takes place on account of government consumpton and transfers to households, both of whch are exogenously fxed. The CO 2 emsson taxes are recycled to the households va the government, whch means that they be ncluded n (or excluded from) both the revenue and the expendture of the government budget. Foregn savngs n the model s expressed as the excess of payments for ntermedate and fnal mports over the sum of exports earnngs, net current transfers and net factor ncome from abroad The latter two, t may be noted, are exogenously gven values n the model. 2.2 Market equlbrum and macroeconomc closure Market clearng equlbrum n the commodty markets s ensured by the condton that sectoral supply of composte commodty must equal demand faced by that sector. In the producton structure of the model the domestc gross output of a sector s defned to be a combnaton of domestc sales and exports, based on a CET transformaton functon. In turn, the domestc sales part of the sectoral gross output and the fnal mports of that sector are aggregated through an Armngton-type CES functon to arrve at the sectoral composte commodty supply 2. On the other hand, the demand for the composte commodty conssts of ntermedate demand, fnal demand - whch n turn s an aggregaton of consumpton, nvestment and government demands - and change n stocks. The model s Walrasan n sprt wth the sectoral prces beng the equlbratng varables for the market-clearng equatons. The Walras law holds and the model s, therefore, homogeneous of degree zero n prces determnng only relatve prces. The prce ndex defned to be a weghted average of the sectoral prces serves as the numerare, and s, therefore, fxed at one. Fnally, note that although the model s neoclasscal n nature, t follows nvestmentdrven macro closure n whch aggregate nvestment s fxed and the components of savngs - household savngs, government savngs and foregn savngs - are endogenous varables and adjust to equalze savng and nvestment. 2.3 Dynamcs The model s multperod n nature, where the unt of perod s one year. However, t s not an an nter-temporal dynamc optmzaton model; t s only recursvely dynamc. That s, t s solved as a sequence of statc sngle-year CGE models, where nvestment n the current year enhances the avalable captal stock and deprecaton depletes that stock, resultng n net addtons (reductons) to sectoral captal stocks between two perods. Lkewse, the sectoral allocaton ratos for prvate nvestment are revsed from perod to perod on the bass of sectoral relatve rates of return on captal. Hence, pror to solvng the CGE model for any gven year other than the base-year an nterm-perod-sub-model (eqs. 0 to 03) s worked out to update the sectoral captal stocks and the sectoral allocaton shares of prvate nvestment. 2 Note that n the nestng structure dagram gven above (fg. ), these 2 functons are not shown. The nestng dagram starts wth the sectoral gross output at the top, and goes down the vertcal lnkages of nputs. 4 SANDEE Workng Paper No. 2-05

23 3. The Busness-as-Usual Scenaro Our CGE model has been calbrated to the benchmark equlbrum data set of the Indan economy for the year The basc data set of the Indan economy for the year has been obtaned from the Central Statstcal Organzaton - Natonal Accounts Statstcs of Inda (varous ssues) and the CSO (997) - Input-Output Transactons Table Other parameters and ntal values of dfferent varables have been estmated from the data avalable n varous other publshed sources. Gven the benchmark data set for all the varables and the elastcty parameters, the shft and share parameters are calbrated n such a manner that f we solve the model usng the base-year data nputs, the result wll be the nput data tself (Shoven and Whalley, 992). Fnally, usng a tme seres of the exogenous varables of the model, we generate a sequence of equlbra for the perod From the sequence of equlbra, wth 5-year tme ntervals 3, the growth paths of selected (macro) varables of the economy are outlned to descrbe the BAU scenaro. 3. The macro varables In the BAU scenaro, real GDP growth throughout the perod vares n the range 4%-6%. The GDP growth rate, whch s 5.7% per year durng , slows down to less than 5% n the perod (table 6). After that the growth rate pcks up agan to more than 5% per year tll 2020 (fgure 2). The drvng force of GDP growth n our model comes from growth n the two man exogenous varables - nvestment and labour supply. In fact, the drectonal changes and the turnng ponts n the qunquennal GDP growth rates seems to be governed by the exogenously gven nvestment growth rates over the thrty year perod. Investment adds to the captal stock, nducng a substtuton away from labour nto captal. Ths results n an ncrease n labour productvty, measured as GDP per unt of labour (fgure 3). Growth n labour productvty coupled wth the smultaneous growth n labour supply s what provdes the man mpetus to GDP growth. 3.2 Poverty rato The poverty rato n the BAU scenaro declnes from 37.5% n 990 to 2% n 2020 (table 5). However, the noteworthy fact s that the declne n poverty rato s very much lnked to the growth n GDP. That s to say, wth the GDP growng faster after 2005, the declne n poverty also speeds up. In the frst 5-year perod, , the poverty rato declnes qunquennally by about 4-5 percentage ponts; n the later 5- year perod t declnes qunquennally by about 7-8 percentage ponts. 3 Snce Indan database s on an annual bass, we solved the model annually for thrty years. However, the results are reported for fve-year ntervals. Ths s because, results presented on a year-to-year bass for thrty years, would not be amenable to any meanngful analyss. SANDEE Workng Paper No

24 3.3 Energy use Total energy use ncreases by about 320% over the 30-year perod However, the annual growth rate of energy use along wth the annual growth rate of GDP declnes each qunquennum untl 2005, wth the declne beng sharper n case of the former after 2005 (table 7). Increased employment of captal n the producton process as well as modest autonomous energy effcency mprovement results n an economy of the energy nputs n the producton process as reflected n the declnng energy use per unt of GDP. 3.4 Carbon emssons Total carbon emssons n the perod rse from 68 mllon tonnes to 559 mllon tonnes at an average rate of 4.% per year (table 6). However, the growth rate s not unform. It drops from more than 4% n the pre-2005 perod to less than 4% n the post 2005 perod. Ths s largely explaned by the declne n the energy-gdp rato after 2005 (table 7). In the Indan economy carbon s emtted predomnantly - as much as 72% of the total emssons - from the combuston of coal. The share of coal n the total emssons remans unchanged throughout the perod (table 0). In assessng Inda s contrbuton to global carbon emssons, t s mportant to look at the per capta carbon emssons 4. Inda s per capta emssons n 990 turn out to be 0.2 tonnes. It ncreases qute rapdly over the 30-year perod and goes up to 0.69 tonnes by the year 2020 (table 2). Even ths level of per capta emssons s consderably less than the global per capta emssons whch are approxmately tonne per year. 4. Polcy Smulatons We develop eght alternatve polcy scenaros for two basc polcy nstruments for carbon emsson reducton - domestc carbon tax and nternatonally tradable permts based on equal per capta emssons allocaton. For the carbon tax polcy we have four polcy scenaros - smulatons, (TT), 2 and 2(TT). Polcy smulatons and 2 deal respectvely wth the two cases of fxng the carbon emsson at the 990 level all through the 30-year perod, and of 0% annual reducton n emssons, wth 2 varants n each - one n whch the carbon tax revenues are recycled to the households lke addtonal government transfers,.e., the across-the-board transfers case, and the other n whch the tax revenues are exclusvely transferred to a target group comprsng of the four lowest ncome decles -.e., the targeted transfers case. For nternatonally tradable permts, we have agan four polcy scenaros - smulatons 3, 3(TT), 4 and 4(TT) - representng the same 2 varants, wth the dfference that nstead of carbon tax revenues, we have, n ths case, revenues earned from the sale of permts. For the polcy scenaros 3 and 3(TT), the emssons quota s fxed at tonne per capta 4 based on 990 populaton as suggested by Parkh and Parkh (998), who have argued that ths would ensure equty between developed and developng countres and smultaneously dscourage the latter from ncreasng ther populaton. 4 Note that the per capta emssons have been calculated on the bass of the 990 populaton for all the years, so that a hgher populaton n the years subsequent to 990 s not allowed to undermne the total emssons n the economy. 6 SANDEE Workng Paper No. 2-05

25 The permt prce for the smulatons 3 and 3 (TT) s exogenously gven to be US$ 6 per tonne of carbon emsson, whch s Rs 00 per tonne at the exchange rate of Rs 6.60 per dollar. In realty, the permt prce wll emerge from a global tradng system of permts, whch, for example, has been modeled by Edmonds et al (993) n the SGM. However, ours s a country-specfc exercse focusng on how t stands to gan or lose from an nternatonally tradable regme of permts. We, therefore, take the world market prce of permts as gven, but do consder alternatve permt prces n dfferent polcy smulatons. Hence, the polcy smulatons 4 and 4(TT) are smply repeat exercses of smulatons 3 and 3(TT) respectvely, wth the permt prce exogenously fxed at Rs 200 per tonne. The eght polcy smulatons are summarzed n table 3 gven below. Table 3 : The polcy smulatons Polcy Instrument Carbon Emsson Restrcton Reveues from Carbon Tax/ Internatonally Tradable Permts Polcy Smulaton Polcy Smulaton (TT) [TT : Targeted Transfers] Polcy Smulaton 2 Polcy Smulaton 2 (TT) [TT : Targeted Transfers] Polcy Smulaton 3 Polcy Smulaton 3 (TT) [TT : Targeted Transfers] Polcy Smulaton 4 Polcy Smulaton 4 (TT) [TT : Targeted Transfers] Domestc Carbon Taxes Domestc Carbon Taxes Domestc Carbon Taxes Domestc Carbon Taxes Internatonally Tradable Permts [Permt Prce= $6 / tonne,.e., Rs 00 /tonne] Internatonally Tradable Permts [Permt Prce= $6 / tonne,.e., Rs 00 / tonne] Internatonally Tradable Permts [Permt Prce = $2 /tonne,.e., Rs 200/tonne] Internatonally Tradable Permts [Permt Prce = $2/tonne,.e., Rs 200/tonne] Fxed at 990 level Fxed at 990 level 0 % annual reducton 0 % annual reducton tonne of carbon per capta based on the 990 populaton tonne of carbon per capta based on the 990 populaton tonne of carbon per capta based on the 990 populaton tonne of carbon per capta based on the 990 populaton Recycled to the households lke addtonal government transfers Recycled exclusvely to a target group of households comprsng of the four lowest ncome decles Recycled to the households lke addtonal government transfers Recycled exclusvely to a target group of households comprsng of the four lowest ncome decles Recycled to the households lke addtonal government transfers Recycled exclusvely to a target group of households comprsng of the four lowest ncome decles Recycled to the households lke addtonal government transfers Recycled exclusvely to a target group of households comprsng of the four lowest ncome decles SANDEE Workng Paper No

26 It would be useful to bear n mnd how the economy would adjust to the ntroducton of domestc carbon taxes (polcy smulatons, (TT), 2 and 2(TT)) and nternatonally tradable permts (polcy smulatons 3, 3(TT), 4 and 4(TT)) before gong nto a detaled dscusson of the eght polcy scenaros. A carbon tax results n prce ncreases for each of the fossl fuels coal, refned ol and natural gas. The extent of prce ncrease n case of each of these fuels s determned by the carbon content of the respectve fuels. The prce ncrease s largest for coal because coal has the hghest carbon content, and smallest for natural gas whch has the lowest carbon content. Producers respond by swtchng from coal towards refned ol and natural gas as a source of energy. At the same tme, hgher energy prces force a reducton n overall energy use. Carbon emssons are reduced on account of both fuel swtchng and overall reducton n fuel use. Usually (nter-fossl-fuel substtutons elastctes beng low), the fuel reducng effect domnates over the fuel swtchng effect, resultng n a retardaton of GDP growth. Typcally, the adverse effect of reduced energy use on GDP growth dmnshes over tme as energy effcency mprovement coupled wth a hgher captal ntensty n the producton process results n a declnng energy use per unt of GDP. Typcally also, the slowdown n consumpton growth s more severe than that n case of GDP growth. When producton actvty goes down, labour demand and wages declne leadng to a fall n personal ncomes (unless the addton to personal ncome from the recycled carbon tax revenue s large enough to offset ths fall). Moreover, hgher energy prces end up as hgher prces for consumer goods, thus lowerng real consumpton. Wth the ntroducton of nternatonally tradable permts wth equal per capta emssons, Inda wll most lkely turn out to be a net seller of permts. A carbon emsson quota of tonne per capta based on the 990 populaton of 80 mllon effectvely means an upper lmt of 80 mllon tonnes of total carbon emssons for the Indan economy. Lookng at the carbon emssons n the BAU scenaro (table 9), t s easy to see that Inda wll be a net seller of tradable permts for the next two or three decades. That s, countres wth hgh per capta emssons would purchase permts from countres wth low per capta emssons, such as Inda. That would n effect mply a transfer of wealth nto Inda. 6 The total revenue from the sale of permts n the nternatonal market for permts s recycled to the households as transfer payments from rest of the world. These transfer payments are akn to an autonomous ncrease n consumpton demand (lke an ncrease n government expendture), and, therefore, result n a hgher demanddrven GDP growth. Hgher ncomes boost consumpton further, so that consumpton rses faster than GDP. However, over tme as the economy gets close to the upper lmt of 80 mllon tonnes of total carbon emssons, the revenue earned from the sale of permts wll shrnk, and the GDP gans wll become progressvely smaller. In fact, n not so dstant a future, the economy wll turn around from beng a net seller of permts to a net buyer of permts. It may be mentoned that, for our polcy scenaros concerned wth Inda s partcpaton n a regme of nternatonally tradable permts wth equal per capta emssons, we are 6 A net buyer of permts would amount to a transfer of wealth out of Inda, but that eventualty does not arse tll 2020 n our scenaros 3, 3 (TT), 4 and 4(TT). 8 SANDEE Workng Paper No. 2-05

27 assumng that the emsson permt payments take place through the government, and the latter decdes to recycle these to the consumers, rather than producers. Tll Inda s a low per capta emssons country (.e., tll ts per capta emssons reman below tonne, the world average) t need not gve prorty to curbng emssons, but to ncome dstrbuton and poverty etc. Subsequently, t can swtch prortes. That s our vew, and our polcy scenaros 3, 3(TT), 4, 4(TT) emanate from ths vew. 7 We now turn to an apprasal the polcy scenaros. A summary of the key results of the polcy smulatons are presented n the tables 4 and 5 (Appendx ). In these tables, selected varables GDP, consumpton, aggregate carbon emssons, per capta carbon emssons, poverty rato and the absolute number of poor of the varous polcy scenaros are compared wth those of the BAU scenaro. Needless to say, henceforth, all comparsons for all the polcy smulatons have been made wth respect to the BAU scenaro. 4. Polcy smulatons and (TT) In ths smulaton the procedure followed s to fx the carbon emsson level at the 990 level and to endogenze the carbon tax rate (whch was fxed at zero n the BAU scenaro). The sequental equlbrum soluton of the model then generates, among other values, the approprate carbon tax rates for each of the years subsequent to 990. The tax rates rse from Rs 47 per tonne n 995 to Rs 2765 per tonne n The growth rate of the carbon tax rate s lower 2005 onwards, because of the lower energy consumpton growth rates n ths perod (table 8). Carbon taxes rase the prce of the fossl fuels dfferentally the ncrease n prce s maxmum for coal whch has the hghest carbon content, followed by that of refned ol and natural gas (table 9) and thus nduce fuel swtchng. The share of coal n total emssons, whch was almost 73% throughout the perod n the BAU scenaro, declnes consderably, partcularly after There are correspondng ncreases n the share of refned ol. The share of natural gas ncreases only margnally (table 0). The aggregate emsson levels fall relatve to the BAU scenaro by 9% n 995 and by 70% n Cumulatve emssons n the 30-year perod fall by 50% (table ). Per capta carbon emssons, based on the 990 populaton, also fall drastcally. In 2020, t s down to 0.2 tonne per capta whle t was 0.69 tonnes per capta n the BAU scenaro (table 2). The energy use and GDP trends of smulaton suggest that upto 2000, the fuel-reducng effect domnates, and subsequently fuel-savng becomes more mportant n determnng the mpact on GDP 8. Upto 2000, the declne n GDP s more than that n the use of energy nputs. However, from 2005 to 2020, energy use declnes much faster than GDP. After 2005, the energy-gdp rato n smulaton s sgnfcantly lower than that n the BAU scenaro (table 7). 7 Some analysts would want the emsson permt revenues to be recycled to producers, who would then nvest them n new technology wth lower carbon emssons. That would be another polcy scenaro whch we have not done n ths study. However, t can be done n ths model wth some changes. 8 When carbon taxes are mposed, fuel nputs become costly. So, the mmedate mpact s a reducton n the use of fuels leadng to a large declne n output. As a consequence, energy-output rato goes up. Ths s known as fuel-reducng effect. However, over tme the economy adjusts by ndulgng n more effcent use of fuels. Ths results n a declne n the energy-output rato. Ths s known as the fuel-savng effect. SANDEE Workng Paper No

28 Losses n consumpton are hgher than losses n GDP even though the carbon tax revenues are recycled to the consumers (table 4). Ths s because the reduced economc actvty (reflected n a lower GDP) results n a decrease n the demand for labour and wages causng dsposable personal ncomes to fall. Moreover, hgher energy prces are passed on to consumers through hgher consumer goods prces whch n turn lower real consumpton. The addton to household ncomes from the recycled carbon tax revenues are not suffcent to compensate for the fall n ther ncomes. The poverty rato,.e., the percentage of poor below the poverty lne, n smulaton ncreases drastcally and progressvely from 995 to In the BAU scenaro, the poverty rato s 32% n 995, but declnes to 2% n In smulaton, the poverty rato s 34% n 995 and declnes to only 8% n 2020 (table 5). In other words, the number of poor n 2020 n scenaro s 4 tmes the number of poor found n the BAU scenaro durng the same year (table 6). In the targeted transfers case of scenaro (TT) 9, the poverty rato mproves a lttle vsà-vs the across-the-board transfers case of scenaro. However, n relaton to the BAU scenaro, t s progressvely hgher from 995 to 2020 (table 5). Moreover, the number of poor n the year 2020 under scenaro (TT) s almost 3.4 tmes that n the BAU scenaro n the same year (table 6). 4.2 Polcy smulatons 2 and 2(TT) Polcy smulaton 2, on the whole, s a mlder verson of polcy smulaton. In smulaton, the average annual reducton n carbon emsson works out to be 50%, whle, n smulaton 2, the annual reducton n carbon emssons s fxed to be only 0% (table ). Per capta emssons, fall progressvely from 990 to As compared to the BAU scenaro, they are 0.02 tonnes less n 990 and 0.07 tonnes less n 2020 (table 2). Expectedly, the carbon tax rates n smulaton 2 are of much lower orders of magntude. The carbon tax rate s Rs.28 per tonne n 990, rses a lttle n 995, and, thereafter, declnes gradually to Rs.74 per tonne, because of lower energy consumpton growth rates n the latter perod (table 8). Energy prces also ncrease moderately (table 9). GDP and consumpton losses n scenaro 2, as compared to the BAU scenaro, are of much lower orders of magntude than those n scenaro (tables 3 and 4). However, consumpton losses are more than GDP losses as n scenaro. In scenaro 2, GDP losses vary from 0.75% to.20%, whle consumpton losses vary from.20% to.55%. 9 Note that for smulaton (TT), and lkewse for all other TT versons of the remanng 3 smulatons, the results are dscussed for poverty rato and the number of poor only. Ths s because the fgures for the macro varables n case of the targeted transfers versons of the smulatons do not dffer much from those n ther respectve across-the-board transfers versons. 20 SANDEE Workng Paper No. 2-05

29 The poverty rato n scenaro 2 ncreases only margnally wth respect to the BAU scenaro. It ncreases by.34 percentage ponts n 990, and by only 0. percentage pont n 2020 (tables 4 and 5). However, the real adverse mpact of smulaton 2 on poverty comes out n terms of the number of poor. The number of poor n smulaton 2, relatve to the BAU scenaro, ncreases by 3.58% n 990 and 4.89% n 2020 (tables 4 and 5). Under targeted transfers of smulaton 2(TT), the poverty scenaro s much less adverse than under smulaton 2. Poverty rato, as compared to that of the BAU scenaro, ncreases by 0.56 percentage pont n 990, and by only 0.02 percentage pont n year 2020 (tables 4 an 5). The number of poor n smulaton 2(TT), compared to that n the BAU scenaro, ncreases by.49% n 990, and by only 0.92% n 2020 (tables 4 and 5). The results of ths smulaton clearly show that the costs to GDP and poverty reducton mposed by a carbon tax can be reduced to a great extent by moderatng the carbon emsson reducton target and at the same tme recyclng the carbon tax revenues to those lvng below the poverty lne. 4.3 Polcy smulatons 3 and 3(TT) In polcy smulaton 3, the carbon emsson quota s fxed at tonne per capta based on the 990 populaton of 80 mllon. In other words, the maxmum permtted total emsson of carbon s fxed at 80 mlllon tonnes annually for the Indan economy. For every tonne of carbon emtted less than the permtted 80 mllon tonnes, the Indan economy earns $6, whch s Rs00 at the base-year exchange rate, through the sale of a permt n a global market of permts, and the total revenue form the sale of permts s recycled to the households as transfers from the rest of the world. The exact procedure followed n ths smulaton s to fx an upper bound for total emssons -.e., 80 mllon tonnes for each year. The actual total emsson of carbon turns out to be much less than the upper bound for each perod (The upper bound s not bndng n any of the years). The dfference between the permtted emssons and the actual emssons s then multpled by the permt prce to arrve at the total revenue from the sale of permts, whch s then recycled to the households lke addtonal transfer payments from the rest of the world. In the process, the model generates a set of equlbrum values for GDP, consumpton, poverty rato etc. In smulaton 3 the carbon emssons ncrease relatve to the BAU scenaro. The ncrease n emssons s almost 4% n the year 990, but, n the later years, declnes to be n the range of % (table ). Per capta emssons also ncrease throughout the perod, wth the ncreases beng n the range of tonnes (table 2). However, what needs to be noted s that, even n the last year, 2020, per capta emssons are only 0.73 tonnes, whch s less than the world average of tonne per capta. The nfuson of addtonal transfer payments from the rest of the world, n the form of permt revenue, leads to substantal ncreases n GDP and consumpton n ths smulaton. GDP ncreases by 6.7% n the year 990. However, n the later years, GDP ncreases are progressvely smaller. In the fnal year, 2020, GDP ncreases by only.8%. The SANDEE Workng Paper No

30 consumpton gans are hgher than the GDP gans n each of the perods (tables 3 and 4). Apart from the ncreases n consumpton resultng from the ncreased transfers to households, there are second-round ncreases n consumpton when there s addtonal ncome generated from the demand-nduced ncrease n producton actvtes. The poverty rato declnes sgnfcantly n scenaro 3. It declnes by 2.43 percentage ponts n the year 990, and by 0.38 percentage ponts n the year 2020 (tables 4 an 5). The number of poor, relatve to the BAU scenaro, decreases by 6.5% n 990, and by 8.8% n the year That s, n the fnal year, 2020, the number of poor s only 2.24 mllon n ths smulaton, as compared to 26.5 mllon n the BAU scenaro (table 5). Poverty declnes even faster under the targeted transfers verson of smulaton 3. The number of poor n ths scenaro, compared to the BAU scenaro, declnes by % n 990 and by 50% n By the year 2020, the number of poor n ths smulaton s only 3.8 mllon,.e., half of the number of poor n the BAU scenaro (table 5). 4.4 Polcy smulatons 4 and 4(TT) Smulaton 4 s worked out exactly lke the smulaton 3, wth the dfference that, n the former, the permt prce s gven to be $2 per tonne of carbon emtted. The ncrease n carbon emssons n ths smulaton, relatve to the BAU scenaro, s as hgh as 9% n 990. However, emssons declne progressvely over the 30-year perod. By the end of the perod, n the year 2020, the ncrease n emssons, compared to the BAU scenaro, s around 6% (table ). The ncreases n the per capta emssons n the varous years are n the range of tonnes. In the last year, 2020, per capta emssons n ths scenaro are 0.73 tonnes, as aganst 0.69 tonnes of the BAU scenaro (table 2). GDP gans n ths smulaton are expectedly larger than that n smulaton 3. GDP, as compared to the BAU scenaro, ncreases by about 2% n 990, and by almost 2% n Consumpton gans are even bgger. Consumpton ncreases by more than 2% n 990, and by more than 3% n 2020 (tables 4 and 5). There s a very substantal declne n the poverty rato n smulaton 4. Poverty rato s only 30.02% n 990, as compared to 37.45% n the BAU scenaro n that year. In 2020, poverty rato s 0.87%, as compared to 2.0% of the BAU scenaro. The number of poor n 2020 declnes by 57% and s only.28 mllon, as aganst 26.5 mllon of the BAU scenaro (tables 4 and 5). In smulaton 4(TT), there s an even speeder declne of poverty. Poverty rato s 25.45% n 990, and only 0.08% n The number of people n poverty, relatve to the BAU scenaro, decreases by 32% n 990 and by 96% n In that year, the number of poor n scenaro 4(TT) s only.02 mllon as aganst 26.5 mllon of the BAU scenaro (tables 4 and 5). 22 SANDEE Workng Paper No. 2-05

31 4.5 Polcy smulatons : caveats In the nterpretaton of the smulaton results, the lmtatons of our model must be borne n mnd. One lmtaton of our model s that n the producton of electrcty, the nput substtuton possbltes are confned to be only wthn the fossl fuels coal, refned ol and natural gas. Carbon free optons such as hydro, wnd, solar and nuclear electrcty are not consdered n the model. The contrbutons of these energy sources n the total energy consumpton n Inda are not lkely to ncrease sgnfcantly wthn the tme frame of our model, As can be seen from table, the contrbuton of other energy sources whch nclude wnd, solar and nuclear energy, to total energy consumpton n Inda n 990 s only 0.6 %. Hydropower provdes 6.2% of the total energy consumed n 990. But ts percentage share does not seem to grow over tme. It was 5.24% n 970, ncreased to 6.77% n 980, but starts declnng after that tll t reaches 6.2% n 990. Even, the post-economc reforms perod of to , Sengupta and Gupta (2003) fnd a declnng share of hydro power and an ncreasng share of thermal power n the total gross generaton of electrcty. They conclude that there has been no success n rasng the share of carbon free optons of hydro and nuclear n gross power generaton by the ntroducton of reforms. Bearng n mnd the lmted relevance of the carbon free optons n the next two or three decades n Inda, we have kept our model structure smplfed and avoded the unnecessary complcaton of ntroducng the optons of hydro, wnd and nuclear n the generaton of power. That sad, we do recognze that the model, n ts present form s ncomplete f t has to be mplemented over a longer tme horzon of ffty years or more, and should be extended for further study. The absence of clean energy optons such as hydro electrcty, means that the the adverse effects of emsson restrcton on economc growth and poverty reducton shown n smulatons and (TT) are somewhat exaggerated. However, even wth hydro electrcty they would reman large, gven the hgh orders of magntude of losses n GDP and poverty allevaton n ths smulaton. In case of polcy smulatons 2 and 2(TT), wth a softer carbon emsson reducton target, the relatvely small losses n GDP and poverty allevaton could not possbly be compensated by ntroducng the hydropower opton, except, perhaps n the last few years of the thrty year perod. Another more serous lmtaton of the model n ts present form s the fact that t s recursvely dynamc and, not fully dynamc. We regard ths as a more serous lmtaton because t restrcts the scope of polcy analyss that can be carred out wthn the framework of the model. A recursvely dynamc model bascally generates a sequence of statc equlbra and s, therefore, sutable for analyzng the consequences for GDP and poverty of annual emsson reducton targets. However, an equally vable polcy opton s a dynamcally optmum strategy wth cumulatve emsson reducton targets. Ths, n fact, can be less costly n terms of GDP loss and poverty reducton foregone because t allows the economy to defne an nter-temporal adjustment path. But such a strategy cannot be examned through a recursvely dynamc model. It needs an ntertemporal optmzng framework lke the one used n Murthy, Panda and Parkh (2000). Our only justfcaton for usng a quas-dynamc nstead of a fully dynamc model s the the economy of effort necesstated by the tme constrant specfed for ths study. We hope to overcome ths lmtaton n a later verson of the model. SANDEE Workng Paper No

32 Fnally, t would be useful to see how the man results of our study based on a recursvely dynamc CGE model compare wth the results obtaned n other studes usng a dfferent model structure.e., an nter-temporal model n an actvty analyss framework. Two recent studes n Inda whch have used ths modellng framework are Murthy, Panda and Parkh (2000) and Gupta (2004). Murthy, Panda and Parkh (2000) do not consder a carbon tax scenaro, but ther tradable permts wth equal per capta emssons allocaton scenaro s comparable to our polcy smulatons 3 and 4. In Murthy, Panda and Parkh (2000), GDP n the the 30 th year (.e., year 2020) ncreases by 6.7% and 3.5% for gven permt prces of $6/tonne and $2/tonne respectvely. In our model, GDP n the 30 th year ncreases by only.8% and 2% respectvely n scenaros 3 (permt prce equals to $6/tonne) and 4 (permt prce equals to $2/tonne). In our vew, a model based solely on materal balances wth prces not playng any role, overestmates the GDP gans from addtonal nternatonal transfers through the sale of emsson permts. In Gupta (2004), under what he calls the Trade and Envronmental Polcy Scenaro-, total emsson s reduced to 94.8% of the 990 level at the end of the year , usng a command-and-control measure. In order to meet ths emssons target, CO 2 emssons n have to be reduced by 89.3% as compared to the emssons under the BAU scenaro 20. Such a reducton n total emssons entals a loss n GDP of 87% n the year relatve to the BAU scenaro. On the other hand, n our study when total emssons are reduced by 70% to brng t down to the 990 level n the year 2020 under a carbon tax scenaro (polcy smulaton ), GDP falls by only 4.6% compared to the BAU scenaro. Once agan the loss n GDP seems to be overestmated n case of the actvty analyss based model. Ths prompts us to reterate our vew that a prce drven CGE model s more lkely to generate realstc estmates of GDP gans or losses arsng from the varous emssons polces. 5. Conclusons and Polcy Implcatons We conclude by hghlghtng the man polcy lessons from our smulaton exercses. The polcy lessons that emanate from our polcy scenaros are farly clear. They are, however, n two parts. In the frst part,.e., n polcy scenaros and 2, the lessons learnt are about the effcacy of a domestc carbon tax polcy to reduce carbon emssons wthout serously compromsng the growth and poverty reducton goals of the Indan economy. In ths regard, the results of the polcy scenaro are very dscouragng. That s to say, the employment of a carbon tax to restrct the carbon emssons n the Indan economy to the 990 level, mposes heavy costs n terms of lower GDP and hgher poverty. Wth targeted transfers to the poor, the costs n terms of hgher poverty are somewhat mtgated, but they reman qute hgh -.e., the number of poor n 2020 ncreases by 3.4 tmes. It needs to be stressed that, these hgh costs n terms of GDP losses and poverty reducton foregone n ths polcy scenaro cannot be sgnfcantly reduced by ncludng the contrbuton of clean energy optons, such as hydro electrcty. Hydropower consttutes a very small and stagnant share (5%-6%) of the total energy consumed n 20 The base-year of the model n Gupta (2004) s SANDEE Workng Paper No. 2-05

33 Inda. The share of other clean energy sources (nuclear, wnd and solar) s even smaller less than percent. More mportantly, the costs to GDP and poverty allevaton n ths polcy scenaro are not unexpectedly hgh. In fact, such hgh costs are a natural consequence of an unduly restrctve carbon emssons polcy. The latter s obvous from the fact that, the per capta emssons (based on the 990 populaton) n ths smulaton n 2020 are 0.2 tonnes as compared to 0.69 tonnes n the BAU scenaro n the same year. In polcy scenaro 2, a mlder restrcton of 0% annual reducton n carbon emsson s acheved through the mposton of a carbon tax. The GDP losses are stll sgnfcant, though not very large. But, poverty, relatve to the BAU scenaro, s hgher throughout the 30-year perod. However, ths can be changed wth targeted recyclng of revenues to the poorest households n the economy. Wth targeted transfers the number of people n poverty ncreases by about 4-5 mllon n the frst half of the perod, , and, subsequently, by less than 2 mllon n the second half of the 30-year perod, In fact, at the end of the perod n year 2020, the number of people n poverty s only 0.24 mllon more than that n the busness-as-usual scenaro. Ths result suggests that targeted transfers s a contrvance that can be effectvely used to dodge the trade-off between poverty reducton and carbon emssons, provded the emsson reducton target s a modest one, such as a 0% annual reducton n total emssons. A 0% annual reducton n total emssons mples that per capta emssons (based on 990 populaton) n 2020 wll be 0.62 tonnes. Ths s no mean target for per capta emssons gven that the average world per capta emssons n 990 s tonne. In the second part,.e., n polcy scenaros 3 and 4, the mplcatons of Inda s partcpaton n a global tradng system of emsson permts are analyzed. In these scenaros, Inda s allowed a maxmum emsson of 80 mllon tonnes of carbon annually. The actual annual emssons n these scenaros, however, are much less than the maxmum lmt. In an nternatonally tradable permts regme, Inda stands to gan by keepng ts emssons as much less than the stpulated maxmum as possble. In other words, Inda does not have a perverse ncentve to emt more n a tradable emsson permts regme, as s sometmes feared. Nor s t true that, Inda can perpetually nduce a resource flow from the developed countres through the sale of emsson permts, by vrtue of havng ts per capta emssons at a level whch are lower than the world average per capta emssons of tonne of carbon. On the contrary, wth actual emssons ncreasng faster n the polcy scenaros 3 and 4 than n the busness-as-usual scenaro, t s safe to expect that the turnaround for Inda- from beng a net seller of permts to a net buyer of permts - wll come before Be that as t may, Inda gans mmensely n terms of hgher GDP growth and lower poverty n the tradable emsson permts scenaros In case of scenaro 3, n whch the permt prce s $6 per tonne, n the 30-year perod, GDP ncreases on an average by 3.7% per year and the number of people n poverty n 2020 goes down by about 9%. In the targeted transfers varant of ths scenaro, the number of people n poverty n 2020 s n fact halved. In case of scenaro 4, n whch the permt prce s $2 per tonne, GDP ncreases n the 30-year perod, on an average by 5.7% per year, and the SANDEE Workng Paper No

34 number of people n poverty n 2020 s reduced by 57%. Moreover, n case of the targeted transfers verson of ths scenaro, poverty n 2020 vrtually vanshes. It s obvous, that global emssons trade wth equal per capta emsson enttlements opens up a unque opportunty for Inda and other developng countres, to sdestep the trade-off between carbon emssons, economc growth and poverty reducton. On ts own, Inda s unlkely to take the hard decson of mposng a domestc carbon tax to reduce carbon emssons, even though a carbon tax wth targeted transfers for a very modest reducton n carbon emssons s not necessarly detrmental to economc growth and poverty allevaton. 6. Acknowledgements I gratefully acknowledge the fnancal support provded for ths study by the South Asan Network for Development and Envronmental Economcs (SANDEE). I am also grateful to Karl-Göran Mäler, Lars Bergman, Gopal Kadekod and other partcpants at the SANDEE workshop for ther very helpful comments. Last, but not the least, I am thankful to Bbek Debroy, Drector, Rajv Gandh Insttute for Contemporary Studes, New Delh for provdng an extremely conducve envronment for the executon of ths project durng my tenure there as a vstng fellow. The usual dsclamers apply. 26 SANDEE Workng Paper No. 2-05

35 References Armngton, P.S. (969), A Theory of Demand for Products Dstngushed by Place of Producton, IMF Staff Papers, vol. 6, Babker, M.H., J.M. Relly, M. Mayer, R.S. Eckaus, I.S. Wng and R.C. Hyman (200), The MIT Emssons Predcton and Polcy Analyss (EPPA) Model: Revsons, Senstvtes and Comparson of Results, Report no. 7, MIT Jont Program on the Scence and Polcy of Global Change. Cambrdge, M.A. Burnaux, J.M., G. Ncolett, and J.O. Martns (992), GREEN: A Global Model for Quantfyng the Cost of Polces to Curb CO 2 Emssons, OECD Economc Studes, no.9. Pars. Chander, Parkash (2004) : The Kyoto Protocol and Developng Countres: Strategy and Equty Issues, n Mchael Toman, Ujjayant Chakravarty and Shreekant Gupta (ed.) : Inda and Global Clmate Change : Perspectves on Economcs and Polcy from a Developng Country, New Delh. Oxford Unversty Press. pp CMIE-Energy : Centre for Montorng Indan Economy - Energy (varous ssues from 998 to 200), Mumba. Centre for Montorng Indan Economy Prvate Lmted. CSO IOTT : Central Statstcal Organzaton (997) Input-Output Transactons Table , Government of Inda, New Delh. CSO NAS : Central Statstcal Organzaton - Natonal Accounts Statstcs (varous ssues from to ), New Delh, Government of Inda. CSO NAS (BS) : Central Statstcal Organzaton (200) - Natonal Accounts Statstcs, Back Seres to New Delh, Government of Inda. CSO NAS FI : Central Statstcal Organzaton (994) - Natonal Accounts Statstcs, Factor Incomes (New Seres) to New Delh, Government of Inda. Dahl, Henrk (989), GANGES : A Computable General Equlbrum for Inda, World Bank Mmeo. Washngton DC, World Bank. Edmonds, J., H.M. Ptcher, D. Barns, R. Baron and M.A. Wse (993), Modellng Future Greenhouse Gas Emssons: The Second Generaton Model Descrpton, n Lawrence R. Klen and Fu-Chen Lo (ed.) : Modellng Global Change, Tokyo. Unted Natons Unversty Press. pp ES : Economc Survey (varous ssues from to ), New Delh. Government of Inda. Fscher, Carolyn and Toman, M. (2000), Envronmentally and Economcally Damagng Subsdes: Concepts and Illustratons, Clmate Change Issues Bref No. 4, Resources for the Future, Washngton, DC. Webste : SANDEE Workng Paper No

36 Fsher-Vanden, K.A., P.R. Shukla, J.A. Edmonds, S.H. Km and H.M. Ptcher (997), Carbon Taxes and Inda, Energy Economcs, vol. 9, Gupta, S. (2002), Dtherng on Clmate Change, Economc and Poltcal Weekly, December 2, 2002, pp Gupta, Mansh (2004): Macro-economc Implcatons of Restrctng Greenhouse Gas Emssons n Inda. Unpublshed Ph.D. Dssertaton, Centre for Economc Studes and Plannng, Jawahar Lal Nehru Unversty. New Delh. Marland, G, T A Boden and R L Andres (200) : Global, Regonal and Natonal CO 2 Emssons n Trends : A Compendum of Data on Global Change, Carbon Doxde Informaton Analyss Centre, Oak Rdge Natonal Laboratory., US Department of Energy, U.S.A. Marland, G, T A Boden and R L Andres (2003) : Global, Regonal and Natonal CO 2 Emssons n Trends : A Compendum of Data on Global Change, Carbon Doxde Informaton Analyss Centre, Oak Rdge Natonal Laboratory., US Department of Energy, U.S.A. Webste : Mtra, P.K. (994), Adjustment n Ol-Importng Developng Countres: A Comparatve Analyss, New York. Cambrdge Unversty Press. Murthy, N.S., M. Panda, J. Parkh (997): Economc Development, Poverty Reducton and Carbon Emssons n Inda, Energy Economcs, 9, Murthy, N.S., M. Panda, and K. Parkh (2000), CO 2 Emsson Reducton Strateges and Economc Development n Inda, IGIDR Dscusson Paper, Indra Gandh Insttute of Development and Research (IGIDR), Mumba. Narayana, N.S.S., K.S. Parkh and T.N. Srnvasan (99) : Agrculture, Growth and Redstrbuton of Income : Polcy Analyss wth a General Equlbrum Model of Inda, Contrbuton to Economc Analyss # 90, North Holland. Amsterdam. NSSO-45 th Round : Natonal Sample Survey Organzaton, 45 th Round (July 989- June 990) on Consumer Expendture and Employment-Unemployment, Sarvekshana (October-December 999), New Delh, Government of Inda. Ojha, V. P. (997) : An Appled General Equlbrum Analyss of the Transston from an Inward-Lookng strategy to an Outward-Lookng strategy : The Case of the Indan Economy n the Eghtes. Unpublshed Ph.D. Dssertaton, Delh School of Economcs, Unversty of Delh. Delh. Parkh, J. and Parkh, K. (998), Free Rde through Delay: Rsk and Accountablty for Clmate Change, Envronmental and Development Economcs, vol. 3, ssue 3, SANDEE Workng Paper No. 2-05

37 Parkh, J., K. Parkh, S. Gokarn, J. P. Panuly, B. Saha and V. Shukla, V. (99), Consumpton Patterns: The Drvng Force of Envronmental Stress, Paper Presented at the Unted Natons Conference on Envronment and Development (UNCED), IGIDR, Monograph. Pearson, C.S. (2000), Economcs of the Global Envronment, Cambrdge, UK. Cambrdge Unversty Press. Pradhan, B.K., P.K. Roy, M.R. Saluja, and Shanta Venkatram (2000): Rural-Urban Dspartes - Inome Dstrbuton Expendture Pattern and Socal Sector, Economc and Poltcal Weekly, July5, 2000, pp Pradhan, B.K. and A. Sahoo (2002) : Impact of Trade lberalzaton on Household Welfare and Poverty, NCAER Mmeo, New Delh. Natonal Councl of Appled Economc Research. Ravndranath, N.H. and B.S. Somasekhar (995), Potental and Economcs of Forestry Optons for Carbon Sequestraton n Inda, Bomass and Boenergy, 8(5), Robnson, Sherman et al (999), From Stylzed to Appled Models : Buldng Multsector CGE Models for Polcy Analyss, North Amercan Journal of Economcs and Fnance, vol. 0, no.2, Sagar, A (2002) : Inda s Energy R and D Landscape : A Crtcal Assessment, Economc and Poltcal Weekly, September 2, 2002, pp Sengupta, R. and M. Gupta (2004), Developmental Sustanablty Implcatons of the Economc Reforms n the Energy Sector, n Mchael Toman, Ujjayant Chakravarty and Shreekant Gupta (ed.) : Inda and Global Clmate Change : Perspectves on Economcs and Polcy from a Developng Country, New Delh. Oxford Unversty Press, New Delh. pp Shoven, J.B. and Whalley, J. (992), Applyng General Equlbrum, New York. Cambrdge Unversty Press. TEDDY : TERI Energy Data Drectory and Yearbook (2002/03), The Energy and Resources Insttute, New Delh. Yang, Z., Eckaus, R.S., Ellerman, A.D. and Jacoby, H.D. (996), The MIT Emssons Predcton and Polcy Analyss (EPPA) Model, Report No. 6, MIT Jont Program on the Scence and Polcy of Global Change. Cambrdge, M A. SANDEE Workng Paper No

38 Appendx Table 4 : BAU Scenaro and the Polcy Smulatons : Selected Varables n 990 BAU Scenaro GDP (n bllon Rupees) Cons. (n bllon Rupees) Carbon Emssons (n mllon tonnes) Per Capta Emssons (n tonnes per capta) Poverty Rato (n percent) No. of Poor (n mllon) GDP (%age dff. from BAU) Cons. (%age dff. from BAU) Carbon Emssons (%age dff. from BAU) Per Capta Emssons (n tonnes per capta) Poverty Rato (n percent) No. of Poor (n mllon) No. of Poor (%age dff. from BAU) Sm Sm (TT) Sm Sm 2(TT) Sm Sm 3(TT) Sm Sm 4(TT) Table 5 : BAU Scenaro and the Polcy Smulatons : Selected Varables n 2020 BAU Scenaro GDP (n bllon Rupees) Cons. (n bllon Rupees) Carbon Emssons (n mllon tonnes) Per Capta Emssons (n tonnes per capta) Poverty Rato (n percent) No. of Poor (n mllon) GDP (%age dff. from BAU) Cons. (%age dff. from BAU) Carbon Emssons (%age dff. from BAU) Per Capta Emssons (n tonnes per capta) Poverty Rato (n percent) No. of Poor (n mllon) No. of Poor (%age dff. from BAU) Sm Sm (TT) Sm Sm 2(TT) Sm Sm 3(TT) Sm Sm 4(TT) SANDEE Workng Paper No. 2-05

39 Table 6 : Macro varables and carbon emssons of the BAU scenaro In bllon Rupees In mllon tonnes GDP Cons. Inv. (exo.) Carbon Emssons GDP (Growth Rate) Cons. (Growth Rate) Inv. (Growth Rate) Note : The growth rates for each of the qunquennums are the annual growth rates Carbon Emssons (Growth Rate) Table 7 : Energy use E E (Growth Rate) BAU BAU Sm. Sm. (%age dff. from BAU) E/GDP E/GDP E GDP Note : E : Total energy use n 0 3 terajoules E/GDP : Energy nput per unt of GDP n 0 3 terajoules per bllon rupees The growth rates for each of the qunquennums are the annual growth rates. Sm. (%age dff. from BAU) BAU Scenaro Table 8 : Carbon tax rates Smulaton Smulaton 2 Rs. per tonne Tax. Rate. (Growth Rate) Rs. per tonne Tax. Rate. (Growth Rate) SANDEE Workng Paper No

40 Table 9 : Energy Prces (percentage dfference from BAU scenaro) Smulaton Smulaton 2 Coal Ref. Ol Nat Gas Coal Ref. Ol Nat Gas Table 0 : Carbon emssons (percentage share of fossl fuels) BAU Scenaro Smulaton Coal Ref. Ol Nat Gas Coal Ref. Ol Nat Gas Table : Carbon Emssons In mllon tonnes Percentage dfference from BAU Scenaro BAU Scenaro Sm. Sm. (TT) Sm. 2 Sm. 2 (TT) Sm. 3 Sm. 3 (TT) Sm. 4 Sm. 4 (TT) SANDEE Workng Paper No. 2-05

41 Table 2 : Per capta carbon emssons In tonnes per capta BAU Scenaro Sm. Sm. (TT) Sm. 2 Sm. 2 (TT) Sm. 3 Sm. 3 (TT) Sm. 4 Sm. 4 (TT) Table 3 : GDP In bllon Rupees Percentage dfference from BAU Scenaro BAU Scenaro Sm. Sm. (TT) Sm. 2 Sm. 2 (TT) Sm. 3 Sm. 3 (TT) Sm. 4 Sm. 4 (TT) Table 4 : Consumpton In bllon Rupees Percentage dfference from BAU Scenaro BAU Scenaro Sm. Sm. (TT) Sm. 2 Sm. 2 (TT) Sm. 3 Sm. 3 (TT) Sm. 4 Sm. 4 (TT) SANDEE Workng Paper No

42 Table 5 : Poverty rato (n percent) BAU Scenaro Sm. Sm. (TT) Sm. 2 Sm. 2 (TT) Sm. 3 Sm. 3 (TT) Sm. 4 Sm. 4 (TT) Table 6 : Number of poor (n mllon) BAU Scenaro Sm. Sm. (TT) Sm. 2 Sm. 2 (TT) Sm. 3 Sm. 3 (TT) Sm. 4 Sm. 4 (TT) GDP Cons. Inv. (exo) Fg. 2 : BAU : Growth rates of macrovarables 34 SANDEE Workng Paper No. 2-05

43 GDP/K GDP/L Fg. 3 : BAU : GDP/K & GDP/L SANDEE Workng Paper No

44 36 SANDEE Workng Paper No Appendx 2 Model Equatons, Varables and Parameters Sectors :. Agrculture 2. Electrcty 3. Coal 4. Refned Ol 5. Natural Gas 6. Crude-Petroleum 7. Transport 8. Energy- Intensve Industres 9. Other Industres 0. Consumer Goods. Servces Sets : Sectors : S = ( Agrcult, Elec, Coal, Refol, Nat-gas, Crude-Pet, Trans, Enernt, Othernd, Cons-good, Servces ) Non-Agrcultural Sectors : NAS = ( Agrcult, Elec, Coal, Refol, Nat-gas, Crude-Pet, Trans, Enernt, Othernd, Consgood ) Non-Fxed Factor Sectors : NFS = ( Elec, Trans, Enernt, Othernd, Cons-good, Servces ) Non-Energy Sectors : NES = ( Agrcult, Trans, Enernt, Othernd, Cons-good, Servces ) Energy Sectors : SES = ( Elec, Coal, Refol, Nat-gas, Crude-Pet ) Prmary Energy Sectors : PES = ( Coal, Nat-gas, Crude-Pet ) Non-electrc Energy Sectors : NEE = ( Coal, Refol, Nat-gas, Crude-Pet ) Non-electrc Fuels Sectors : NEF = ( Coal, Refol, Nat-gas ) Exportng Sectors : EXS = ( Agrcult, Coal, Refol, Trans, Enernt, Othernd, Cons-good, Servces) Non-exportng Sectors : NXS = (Elec, Nat-gas, Crude-Pet) Importng Sectors : IMS = ( Agrcult, Coal, Refol, Nat-gas, Crude-Pet, Enernt, Othernd, Cons-good ) Non-mportng Sectors : NMS = (Elec, Trans, Servces )

45 Regons : RGN = ( rural, urban ) Sources of Income ( land, fxed-factor, wage-labour, self-employed-labour, captal, transfer payments) : TYP = ( l, f, w, s, k, tp ) Consumpton Expendture Classes CEC = (, 2, 3, 4, 5) Income Classes (Percentles) H = ( h (0%), h2(0%),,h9(0%), h0(5%), h(%), h2(%),,h5(%) ] Producton Structure () () X = a x * [ *N ( )*Z ] / x x + x x x ε NFS (2) (2) (3) (3) Pz * x N = Z *, where x = /( + Pn *( x ) x n z x P * X = P *N P * Z ++ t * * X (Note : ω =0, 8) e x ) ε NFS ε NFS (4) (4) X = a x * [ *NF ( )* ] / x x + x f x x ε PES (5) (5) P * x f NF = f *, where x = /( + Pnf*( x ) x x ) ε PES (6) P x * X Pnf * NF += Pf * f (6) ε PES [ ] / * CP x 4 (7) x X * *NF 4 4 = ax 4 x4 + ( x4 ) (7) 4 x 4 SANDEE Workng Paper No

46 (8) (8) (9) (9) (0) t * (Pq + ) * x 6 e cp 4 6 NF = CP*, where x = /(+ x ) Pnf *( x ) 4 4 P * X = P * NF + ( P x nf q t x 4 e * cp 6 ) * CP -/ x () () PVA * x RS = VA * Prs *( x ) x, where σx =/ (+ ρx ) (2) PX *X =Prs *RS +Pva *VA (4) (4) EM = ld * P Pld * *( em rs rs ) rs, where σrs =/ (+ ρrs ) (5) Prs *RS =Pem *EM +Pld * ld - - x x X = ax *[ x *RS + (- x )*VA ] - - -/ rs rs rs (3) RS = ars *[ rs *EM + (- rs )* ld ] - - -/ em (6) em em EM = a em *[ em *N + (- em )*EA ] (7) (7) Pea * em N = EA * Pn *( em ) em, where σem =/ (+ ρem ) (8) Prs *RS =Pem *EM +Pld * ld [ ] / *Z nf (9) (9) NF a * *N nf = nf nf + ( nf ) nf ε NEE (20) (20) nf P * Z * z nf =, where σnf = /(+ Pn *( nf) N ) nf ε NEE 38 SANDEE Workng Paper No. 2-05

47 (2) (2) Pnf * NF = P * N + P n z * Z ε NEE [ ] / * VA z (22) (22) Z a * * EA z z ( ) z + z = ε NAS z (23) (23) EA Pva * = VA * Pea *( z z ) z, where z = /( + z ) ε NAS (24) (24) P Z * Z = Pea * EA + P va * VA ε NAS / n n [ * N m ] n (25) (25) N = a n ( n ) n * * Nd + ε S (26) (26) PNm * n Nd = Nm *, where σn /( PNd * ( n ) = + n n ) ε S (27) Pn *N =PNd *Nd +PNm *Nm ε S [ * NE ] / EA (28) EA = aea * * E EA ( ) EA + EA EA ε S (29) (29) EA PNE * EA E = NE *, where EA = /( + PE *( EA ) EA ) ε S (30) P (30) EA * EA = Pq * E + P NE * NE 2 ε S VA VA lw VA VA ava * K *K *Lw ls * Ls VA (3) = + + ε S [Note : δk + δlw + δls = ] / SANDEE Workng Paper No

48 (32) (32) VA Wrg * k K = Lw *, where VA = /( + Pk * lw VA ) ε S (33) (33) VA Wrg * ls Ls = Lw *, where VA /( P * = + ls rg lw VA ) ε S (34) (34) P VA * VA = P. * K + W * L k rg w + P LS rg * L s ε S / NE NE gs NE NE ane cl *CL *GS ro *RO NE (35) = + + ε S (36) (36) [Note : δcl + δgs + δro = ] CL = GS * ( Pq gs + te gs ) ( Pq + te cl ) cl * * cl gs NE, where NE = /( + NE ) ε S (37) (37) RO ( Pq + t ) gs = GS * Pq + t ro e * e * gs ro * * ro gs NE, where NE = /( + NE ) ε S (38) PNE *NE = ( Pq cl + t e * µcl ) *CL +( Pqro + t e * µro ) *RO (39) +( Pqgs + t e * µgs ) *GS ε S - - -/ ex ex X ex ex ex ex = a * [ *EX + (- )*DD ] ε EXS (40) (40) Pdd * e EX = DD * Pex *( x e x ) ex, where σex =/ (+ ρex ) ε EXS (4) PX *X =Pex *EX +Pdd *DD ε EXS 40 SANDEE Workng Paper No. 2-05

49 (42) EX = aexd *[ PWex /pwes ] ρ exd ε EXS (43) X = DD ε NXS (44) PX *X =Pdd *DD ε NXS [ * DD ] / q Q a * *M q (45) = q q + ( q ) q ε IMS (46) Pdd * M DD * = Pm *( q q ) q, where σq =/ (+ ρq ) ε IMS Q * Pq = Pm * M + Pdd * DD (47) ε IMS (48) Q = DD ε NMS (49) Pq *Q =Pdd *DD ε NMS CO2 2 Emssons: (50) ECO2ng 2 = = µcl *CL + = µgs *GS + = µro *RO + µcp *CP (5) ECO2 2 g = + ω 8 *X 8 + = *cg = (52) TECO2 2 = ECO2 ng + + ECO2 2ng g g (53) PAYEM = t e *ECO2 2ng ng ϕ *C Prces (Exports,, Imports and and Intermedates) (54) PWex = ( Pex * (-exsub )) / ER ε EXS (55) Pm = pwm *( + tfm ) *ER ε IMS ε IMS SANDEE Workng Paper No

50 (56) Pnm = am j* pwm j * ( + tnm j ) * ER j= (57) P nd a * P q * ( + t nd ) = j= & 7 j j j ε S ε S Factor_Prces,_Consumer_Prces_and_Prce_Indces (58) totlab = Lw + Ls = 2 (59) Pc =Pq *( + tfd +t e * ϕ ) ε S (60) CPI rg = ( = Pc *C,rg ) / ( = C,rg ) rg ε RGN (6) W rg = ( λ rg * CPI rg *dw rg ) / dcp rg rg ε RGN (62) PINDEX = Factor Incomes = Sectoral Factor Incomes : (63) Y Pl * l l, = pwts() * Pc (64) Y = Pf * ε PES f, f (65) Y = W * L w * ( tw ) ε S w, rg [ Note : W rg = W urban for ε NAS & W rg = W rural for = agrcult ] (66) Y = P ls *L *( tw ) ε S s, rg s (67) Y = P k *k *( tk ) ε S k, (68) GTR = ( gtra + gtrb ) * PINDEX + PAYEM (69) WTR = ( nct + nf ) * ER (70) Y tp = ( GTR + WTR ) Rural and Urban Factor Incomes : (7) YH ty,rg al ty,, rg * Yty, + ar rg * Y tp ty ε TYP, rg ε RGN ty tp = [Note: rg al ty,,rg = for & ty (ty tp) ; rg ar rg =] 42 SANDEE Workng Paper No. 2-05

51 Income Dstrbuton Step : Mappng of Factor Incomes onto ncomes of the 5 ncome classes (percentles). (72) Yh, rg = h, ty, rg * YH ty, rg h ε H, rg ε RGN ty [Note: Σ h π h, ty, rg = ] (73) Yrg = h,rg * Yh, rg rg ε RGN h (74) Vy = rg ε RGN 2 rg h,rg *(Yh,rg Yrg) h Step 2 : Computng the mean and varance of log ncome, under the assumpton that the dstrbuton of populaton accordng to per capta ncome and per capta consumpton expendture s b-varate log normal. = rg ε RGN Y (75) logy ( ) 2 Y rg rg 2 rg (76) (77) (78) Y rg = 2 Vy rg rg log + 2 ( Yrg ) rg ε RGN = Y rg ε RGN c rg rg + c rg rg * rg Y rg rg = rg ε RGN Step 3 : Determnng the shares of () populaton, () consumpton and () total ncome accrung to the households that fall under consumpton expendture level k for k =,2,,5. (79),rg k c log cel k,rg - rg = N 0, c rg k ε CEC, rg ε RGN (80) k,rg c logcel k,rg - rg c = N c rg 0, rg k ε CEC, rg ε RGN (8) ϖ k,rg logcel k,rg Yc Y = N rg 0, c rg rg c rg k ε CEC, rg ε RGN SANDEE Workng Paper No

52 Step 4 : Computng the per capta expendture and ncome for the fve expendture classes. (82) c c 2 Crg = exp rg + ( rg ) 2 rg ε RGN (83) Ck, rg = Crg( k,rg k-,rg ) / ( k,rg k-, rg) k ε CEC, rg ε RGN (84) Y Y ( ϖ ϖ ) / ( ) k ε CEC, rg ε RGN k, rg = rg k,rg k,rg k,rg k-, rg Step 5 : Determnng the sectoral consumpton demands for each of the fve expendture classes usng the Stone-Geary lnear expendture system. (85) Pc *C = Pc + C Pc,k,rg,k,rg,k,rg k, rg J j j,k, rg ε S, k ε CEC, rg ε RGN Step 6 : Determnng the sectoral consumpton demands. 5 (86) C = ( ) * poprg *,k, rg ε S, rg ε RGN, rg C k= k, rg k -, rg (87) C = C, rg rg ε S Savngs (88) HSAV = rg pop rg * = 5 (89) GSAV = = Nd *( + ( = j= + ( = k ( k, rg k-, rg ) *( Yk, rg - C k, rg ) a j *tnd j *Pq j )+ Nm *( tfd * Pq (ID +C )) tw * W rg * Lw ) = + ( = + ( = j= am j *tnm j * (wpm j *ER)) tfm * (wpm *ER) * M ) tw * Pls rg * Ls ) + ( = tk *Pk *Lk ) + PAYEM - ( = Pq *cg ) - ( GTR ) 44 SANDEE Workng Paper No. 2-05

53 (90) FSAV = = ( wpm *M ) + = Nm *( j= am j * wpm j ) - ( = PWex *EX ) ( nct + nf ) Savng - Investment Balance (9) HSAV + GSAV + ( FSAV * ER ) = = ID *Pq *( + tfd ) (92) ID =ad * (pubnv + prnv) ε S (93) GRINVD = pukv * pubnv + prkv * prnv ε S Commodty Market Clearng (94) FD =ID +C + cg ε S (95) Q = a j * Nd j +FD ε NES j= &7 (96) Q 2 = = (97) Q 3 = = (98) Q 4 = = (99) Q 5 = = E +FD 2 CL + FD 3 RO + FD 4 GS + FD 5 (00) Q 6 = CP + FD 6 Dynamcs : (0) k,t = (-dep )* k,t- + GRINVD ε S (02) prkv,t = - exp( - λ (ROR,t- )) ε S (03) ROR,t- = Pk,t- / = 6 j Pk j,t- ε S SANDEE Workng Paper No

54 Endogenous Varables : X NF Gross domestc output Non-fxed factor nputs aggregate ε S ε NEE RS Land-energy-materals aggregate n agrculture EM Energy-materals aggregate n agrculture Z Energy-labor-captal aggregate ε NAS N Non-energy ntermedate nputs aggregate ε S Nm Imported ntermedates aggregate ε S Nd Domestc ntermedates aggregate ε S V Value-added ε S Lw Input of wage-labour ε S Ls Input of self-employed labour ε NAS EA Energy Aggregate ε S E Input of Electrcty ε S NE Non-electrc fuels aggregate ε S CL Input of Coal ε S GS Input of Natural-gas ε S RO Input of Refned Ol ε S CP Input of Crude-Pet n the Refned Ol Sector DD Domestc demand ε S EX Export demand ε EXS M Fnal Imports ε IMS Q Composte output ε S PNE Prce of non-electrc fuels aggregate ε S Pk Prce of captal ε S Pva Prce of value-added ε S Pea Prce of energy aggregate ε S Pn Prce of non-energy ntermedate nputs aggregate ε S Pz Prce of energy-labor-captal aggregate ε NAS Pnf Prce of non-fxed factor nputs aggregate ε NEE Prs Prce of land-energy-materals aggregate n agrculture Pem Prce of energy-materals aggregate n agrculture Pl Prce of land n agrculture Pf Prce of fxed factor ε PES Pdd Prce of domestc demand ε S Pex Prce of export demand ε EXS Px Prce of domestc output ε S Pq Prce of composte output ε S PWex Prce (n foregn currency) of exports n the nternatonal ε EXS market Pnd Prce of domestc ntermedates aggregate ε S Pnm Prce of mported ntermedates aggregate ε S Pm Prce of Fnal mports ε IMS 46 SANDEE Workng Paper No. 2-05

55 ECO2 ng ECO2 g TECO2 t e PAYEM Pls urban CO 2 emssons n the non-government sector CO 2 emssons n the government sector Total CO 2 emssons n the economy ( TECO2 s varable n the base-run, but fxed n the smulatons) Carbon tax (Rs. / ton of carbon emssons) ( t e s fxed at zero n the base-run, but a varable n the smulatons. ) Total Emsson Payments Remuneraton to self-employed labour n the non-agrcultural sectors W rg Wage rate for wage-labour by regon rg ε RGN Pc Consumpton Prces ε S CPI rg Consumer prce ndex by regon rg ε RGN PINDEX Overall prce ndex Y ty, Factor ncomes by sector ty ε TYP, ε S GTR Government transfers WTR World Transfers YH ty, rg Factor Incomes by regon ty ε TYP, rg ε RGN Y h, rg Incomes by ncome classes h ε H, rg ε RGN Yrg Mean Income rg ε RGN Vy rg Varance of ncome rg ε RGN Y rg Mean of log ncome rg ε RGN Y rg c rg c rg Standard Devaton of log ncome Standard Devaton of log consumpton Mean of log consumpton rg ε RGN rg ε RGN rg ε RGN k,rg Share of populaton that falls under per capta rg ε RGN expendture level cel k,rg k,rg Share of consumpton accrung to the populaton k ε CEC, rg ε RGN under per capta expendture level cel k,rg Share of ncome accrung to the populaton k ε CEC, rg ε RGN under per capta expendture level cel k,rg Ck,rg Per capta consumpton by consumpton expendture class and regon k ε CEC, rg ε RGN Y Per capta ncome by consumpton k,rg expendture class and regon k ε CEC, rg ε RGN C Consumpton of commodty by consumpton ε S, k ε CEC,,k,rg expendture class and regon rg ε RGN C,rg Consumpton of commodty by regon ε S, rg ε RGN C Consumpton of commodty ε S HSAV Household Savngs GSAV Government Savngs ϖ k,rg SANDEE Workng Paper No

56 HSAV GSAV Household Savngs Government Savngs FSAV Foregn Savngs (n dollars) ER Exchange Rate ID Investment demand by sector of orgn ε S GRINVD Gross real nvestment by sector of destnaton ε S FD Fnal demand by sector ε S ROR Relatve rate of return on captal n sector ε S Exogenous Varables and Parameters : k Captal stock n sector ε S l Supply of land n agrculture totlab Total labour supply n the non-agrcultural sectors cg Government consumpton of commodty ε S Ls Fxed supply of self-employed labour n agrculture f Supply of fxed factors n the prmary energy sectors ε PES pubnv Aggregate publc sector real nvestment prnv Aggregate prvate sector real nvestment dw rg Intal wage rate by regon rg ε RGN dep Deprecaton rate of captal n sector ε S dcp rg Intal consumer prce ndex by regon rg ε RGN pwes Internatonal prce of export substtutes ε S pwm Internatonal prce of mports ε S Eco2q Annual allotment of CO 2 emsson quota peco2 Prce of tradable emsson permt ($ per ton) pwts Weghts n the prce ndex ε S gtra Government s nterest payments gtrb Government s current transfers nct Net current transfers from rest of the world nf Net factor ncome from rest of the world tnd Rate of tax on domestc ntermedates ε S tnm Rate of tax on mported ntermedates ε S tfm Rate of tax on fnal mports ε S exsub Rate of subsdy on exports ε S tfd Rate of tax on fnal demand ε S tk Rate of tax on captal ncome ε S tw Rate of tax on wage and self-employed ε S labour ncome al ty,, rg Shares for allocaton of sectoral factor ncomes to regons ty ε TYP, ε S, rg ε RGN ar rg Shares for allocaton of transfer payments to regons rg ε RGN 48 SANDEE Workng Paper No. 2-05

57 π h,ty,rg Factor ncome share by ncome class and regon h ε H, ty ε TYP, rg ε RGN θ h,rg Populaton shares by ncome class and regon h ε H, rg ε RGN κ rg κ-value transformng the S.D. of log ncome to rg ε RGN S.D. of log consumpton ν rg Varance constant n the S.D. of log ncome equaton by regon rg ε RGN α rg Intercept term n the consumpton fucton by regon rg ε RGN β rg Slope term n the consumpton fucton by regon rg ε RGN cel k,rg Upper lmt of consumpton expendture of class k ε CEC, rg ε RGN k n regon rg,k,rg Consumpton expendture shares by sector, class ε S, k ε CEC, and regon rg ε RGN,k,rg Commted consumpton expendtures by ε S, k ε CEC, sector, class and regon rg ε RGN pop rg Populaton by regon rg ε RGN a j amount of commodty requred to produce ε S, j ε S unt of domestc ntermedate nput aggregate for sector j am j amount of commodty mports requred to ε S, j ε S fulfll unt of mported ntermedate nput aggrgate for sector j ad Share of aggregate nvestment by sector of orgn ε S prkv Share of prvate nvestment by sector of destnaton ε S pukv Share of publc nvestment by sector of destnaton ε S λ Factor that ensures that the allocaton ratos (prkv s ) add to one µcl CO 2 emsson from one unt of coal used ε S µro CO 2 emsson from one unt of refned ol used ε S µgs CO 2 emsson from one unt of natural gas used ε S µcp CO 2 emsson from one unt of crude-petroleum used ω CO 2 emsson per unt of producton of ε S commodty ϕ CO 2 emsson per unt of household consumpton ε S of commodty τ CO 2 emsson per unt of government consumpton ε S of commodty σx Elastcty of substtuton at the X-level ε S producton functon σrs Elastcty of substtuton at the RS-level p.f. n agrculture σem Elastcty of substtuton at the EM-level p.f. n agrculture SANDEE Workng Paper No

58 σnf Elastcty of substtuton at the NF-level producton functon ε NEE σn Elastcty of substtuton at the N-level ε S producton functon σz Elastcty of substtuton at the Z-level ε NAS producton functon σva Elastcty of substtuton at the VA-level ε S producton functon σea Elastcty of substtuton at the EA-level ε S producton functon σne Elastcty of substtuton at the NE-level ε S producton functon σex Elastcty of substtuton at the EX-level ε EXS producton functon σq Elastcty of substtuton at the Q-level ε IMS producton functon δx Share parameter of the X-level producton ε S functon δrs Share parameter of the RS-level p.f. n agrculture δem Share parameter of the EM-level p.f. n agrculture δnf Share parameter of the NF-level producton functon ε NEE δn Share parameter of the N-level producton functon ε S δz Share parameter of the Z-level producton functon ε NAS δva Share parameter of the VA-level producton functon ε S δea Share parameter of the EA-level producton functon ε S δne Share parameter of the NE-level producton functon ε S δex Share parameter of the EX-level producton functon ε EXS δq Share parameter of the Q-level producton functon ε IMS ax Scale parameter of the X-level producton functon ε S ars Scale parameter of the RS-level p.f. n agrculture aem Scale parameter of the EM-level p.f. n agrculture anf Scale parameter of the NF-level producton functon ε NEE an Scale parameter of the N-level producton functon ε S az Scale parameter of the Z-level producton functon ε NAS ava Scale parameter of the VA-level producton functon ε S aea Scale parameter of the EA-level producton functon ε S ane Scale parameter of the NE-level producton functon ε S aex Scale parameter of the EX-level producton functon ε EXS aq Scale parameter of the Q-level producton functon ε IMS Numerare : PINDEX Overall Prce Index 50 SANDEE Workng Paper No. 2-05

59 It s obvous that data requrements for the CGE model developed for ths study are huge and dverse. In fact, publshed data rarely ft the requrement of the model. The data collected from varous publcatons had to go through several stages of processng before t became applcable to the CGE model. Partcularly dffcult was the task of creatng compatblty between dfferent sets of data comng from vared sources, usng dfferent base-years, classfcatons, and degrees and types of dsaggregaton across sectors. The compatblty problem n poolng of data from varous sources was encountered at almost every step. We have gven below a bref descrpton of the adjustments made n publsed data at the varous steps. Our CGE model has been calbrated to the benchmark equlbrum data set, represented n a Socal Accountng Matrx for the Indan economy for the year The basc data set for the SAM has been obtaned from the Central Statstcal Organzaton - Natonal Accounts Stattstcs of Inda (varous ssues) and the CSO (997) - Input-Output Transactons Table A host of other exogenous varables and parameters have been estmated from the data avalable n varous other publshed sources. The x nput-output transactons table Our model s based on an eleven sector dsaggregaton of the Indan economy. The CSO- IOTT provdes a hghly dsaggregated 5 x 5 nput-output matrx for the Indan economy for the year , the base-year of our model. Unfortunately, even n ths 5 sectoral dvson Crude Petroleum and Natural Gas are clubbed together n sector no. 24. By usng guessestmates on the splt ratos for the nputs and outputs of the Crude Petroleum and Natural Gas sectors, obtaned from the concerned statstcans at the CSO, New Delh, we frst splt the sector 24 of CSO-IOTT nto two sectors, and thus generated a 6 x 6 I-O matrx. We then worked out a mappng scheme (shown below) from the 6 sectors to our sectors and thereafter produced an aggregated x I-O matrx. That gves us the nterndustry flows as well as the fnal demand components for the sectors. Table A3- : Sector mappng scheme Appendx 3 Sector Sector Name CSO - IOTT Sectors No AGRICULTURE ELECTRICITY 0 3 COAL 23 4 OIL 59 5 NATURAL GAS 25 6 CRUDE PETROLEUM 24 7 TRANSPORT 04,05 8 ENERGY INTENSIVE INDUSTRIES 26-30, 53,6-64, 69, 7, 73-76, 9 OTHER INTERMEDIATES ncl. Captal Goods 3-33, 47, 52, 54, 57, 58, 60, 65-68, 70, 72, 77-00, 02, 03,07 0 CONSUMER GOODS , , 055, 056 SERVICES 06, 08-6 SANDEE Workng Paper No

60 Captal and labour stocks Data on captal stocks are avalable n the CSO-NAS(BS), but agan not as per our sectoral classfcaton. We splt the aggregated captal stocks wth respect to our sectors usng the value added proportons. The resultng captal stocks fgures were not all compatble wth the captal ncomes fgures generated above usng CSO-NAS (BS) and CSO-NAS-FI. Assumng greater relablty of the captal ncomes fgures, we adjusted the captal stocks fgures so that the sectoral captal rental rates were realstc, as judged from other publshed data sources. The labour stock data s avalable n NSSO-45 th Round. The labour stock data posed less of a problem because, n ther case, the sectoral dstrbuton s not requred. In the model, sectoral captal stocks are fxed at exogenously gven levels, but labour supply s fxed only n aggregate terms. The only sector for whch labour supply s fxed exogenously s agrculture, and the data for ths s avalable n NSSO-45 th Round. Table A3-2 : Populaton, labour supply and labour partcpaton rate Year Pop. (n bllon) Pop. Growth rate Lab. Sup. (n bllon) Lab. Sup.- Growth rate LPR Note : LPR : Labour Partcpaton Rate The growth rates for each of the qunquennums are the annual growth rates. Income dstrbuton Factor ncome shares by ncome percentles for each the two regons rural and urban are deducble from the ncome dstrbuton data provded for and n Pradhan et al (2000). We have used the ncome dstrbuton data for dervng the factor ncome shares for , the base year of our model. It s generally agreed that ncome dstrbuton pattern changes very slowly n Inda. Hence, t s far to assume that the ncome dstrbuton pattern of wll approxmate that of SANDEE Workng Paper No. 2-05

61 Table A3-4 : Factor ncome share by ncome percentles Urban yself ywage ycap yland yff ynonp h h h h h h h h h h h h h h h Rural yself ywage ycap yland yff ynonp h h h h h h h h h h h h h h h Note : h to h9 : 0% each ; h0 : 5% ; h to h5 : % each. yself : ncome of self-employed ; ywage : wage ncome ; ycap : ncome from captal ; yland : ncome from land ; yff : ncome from fxed factors ; ynonp : non-producton related ncomes (.e., transfer payments). SANDEE Workng Paper No

62 LES parameters for the demand functons In our model there are 5 rural and 5 urban consumpton expendture classes. To econometrcally estmate the LES parameters for each of these 0 classes from tme seres data would have been a dauntng task. So we decded to make use of an exstng set of parameters, from another study, Dahl (989). The latter gves the commtted expendtures and the expendture shares for the ten rural and urban consumpton expendture classes, as per a sx-sectors classfcaton agrculture, captal goods, ntermedate goods, publc nfrastrucure, consumer goods and servces. Moreover, the commtted expendtures are at the prces. These are frst nflated to the prces usng the wholesale prce ndces obtaned from the ES (Economc Survey (varous ssues), Government of Inda). To obtan the demand functon parameters for our nne sectors we frst construct a 9x6 transformaton matrx whch maps the 6x vector of the demand parameters (for each expendture group) n the sx-commodtes classfcaton, onto a 9x vector of demand parameters for our nne commodty groups. The transformaton matrx s prepared by usng the fnal consumpton demand vector of the nput-output transactons table of the CSO-IOTT. From the latter we could determne the elements of the transformaton matrx.e., proportons of each of the 6 sectors of Dahl (989) gong nto the varous sectors of our nne-sectors scheme. 54 SANDEE Workng Paper No. 2-05

63 Table A3-5 : Expendture shares by consumpton expendture classes Urban c c2 c3 c4 c5 Agrcult Elec Coal Refol Nat-gas Crude-Pet Trans Enernt Othernt Cons-good Servces Rural c c2 c3 c4 c5 Agrcult Elec Coal Refol Nat-gas Crude-Pet Trans Enernt Othernt Cons-good Servces Substtuton elastctes for the producton functons The substtuton elastctes of the producton functons n the nested producton structure have taken from Babker et al (200), wherever possble. (We have followed closely, but not entrely, the nestng of the producton structure n the EPPA model presented n Babker et al, 200). The substtuton elastctes, between the domestc and mported ntermedates aggregates at the N level, and between captal, wagelabour and self-employed labour at the VA level, have been taken from Ojha (997). Fnally, the source for the CES (σq ) and CET (σex) elastctes n the trade aggregaton functons s Pradhan and Sahoo (2002). SANDEE Workng Paper No

64 Table A3-6 : Substtuton elastctes σcol σne σea σva σn σz σx σnf σem σrs σq σex Agrcult Elec Coal Refol Nat-gas Crude-pet Trans Enernt Othernt Cons-good Servces Carbon emsson coeffcents For carbon emsson coeffcents, the source we have used s Yang et al (996). Yang et al (996) provde fgures for coeffcents of energy contents n Inda for coal, crude petroleum, natural gas, refned ol n exajoule per mllon US$ at 985 prces. We convert these energy content coeffcents to exajoule per mllon rupees at 990 prces usng the approprate exchange rate and prce ndces from the ES. These are then multpled by the coeffcents of carbon contents n mllon tonnes per exajoule, also gven n Yang et al (996) to arrve at the coeffcents of carbon contents n mllon tonnes per mllon rupees. Carbon s emtted n the process of output generaton as well, n the cement ndustry, whch s a part of the energy ntensve sector, n our classfcaton. Carbon emsson coeffcent per unt of output produced n ths sector s obtaned from Murthy, Panda and Parkh (997). Carbon emsson coeffcents for prvate and government consumpton are also taken from Murthy, Panda and Parkh (997). Table A3-7 : Emsson Coeffcents (tonne per rupee) µcl µro µgs µcp ω ϕ τ Agrcult Elec Coal Refol Nat-gas Crude-pet Trans Enernt Othernt Cons-good Servces SANDEE Workng Paper No. 2-05