Self enforcing environmental agreements

1. ACHIEVEMENT OF SUSTAINABLE
DEVELOPMENT THROUGH
INTERNATIONAL COOPERATION
Soumyadeep Mukhopadhyay; 17235308
EC5103 Natural Resource Governance Assignment
1st Semester, MEconSc (NREP)
J.E. Cairnes School of Business and Economics
National University of Ireland, Galway
November 7, 2017
Abstract
Solving transboundary environmental problems require international
regime that will satisfy three main conditions, viz. the treaty should be
(i) individually rational i.e. no party can gain by withdrawing or non-
compliance, (ii) collectively rational i.e. it will not be possible for parties
to collectively change the treaty to their advantage, and (iii) it should be
fair i.e. the parties should percieve it to be legitimate. Principle of sov-
ereignty makes the nations act independently and they cannot be forced
to sign an agreement against their wish. Therefore, the agreement needs
to be self-enforcing and it should restructure the incentives in such a way
that the nations will be better o¤ as signatory of the agreement than be-
ing a non-signatory. Therefore, self-enforcing international environmental
agreements are strategic instruments of policy which decide how to include
maximum number of countries and distribute the bene…ts evenly, which
will exceed the cost of compliance to the signatories. A number of carrot
and stick policy such as trade restrictions, tari¤s, sanctions and compen-
sations can ensure high levels of participation and compliance. Among
many failed international agreements, Montreal Protocol shines as an in-
credible success and demonstrates how environmental sustainability can
be achieved through international cooperation.
1 Introduction
Transboundary environmental problems cause great harm to the shared in-
terests of nation states. High level of international cooperation is needed for
protection of global public goods and transboundary environmental resources.
However, there are 195 sovereign states on Earth, each with its own agenda.
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2. No international agency can establish and enforce a binding policy, unless the
states willfully participate and enforce multilateral agreements. These concepts
can be demonstrated using the Montreal Protocol (1987) case study, which will
be referred repeatedly in this essay. International treaties and agreements are
primary tools for achieving international cooperation and in order to succeed,
these treaties must strategically manipulate incentives available to the states
for enforcing the treaties. Such treaties are commonly known as self enforcing
agreements. On the other hand, a mechanism must be present to penalize a state
for not ful…lling the agreements as well as to create an exclusivity among the
signatories so as to attract more parties for reaping the exclusive bene…ts. The
penalties and incentives built in the international self enforcing environmental
agreements can be referred to as carrot and stick policies. The following sections
and subsections will discuss in details the concept of self enforcing agreements
and the tools to achieve its objectives.
1.1 Montreal Protocol, 1987
Through the 1970s and the 1980s, a number of commonly used halocarbons were
found to be extremely damaging to the stratospheric ozone around Earth’s at-
mosphere, especially polar regions. The main cause of ozone depletion were syn-
thetic halocarbon refrigerants, solvents, propellants, and foam-blowing agents
(chloro‡uorocarbon (CFCs), HCFCs, freons, halons)- collectively referred to
as ozone-depleting substances (ODS). These compounds are transported into
the stratosphere by wind after being emitted at the surface. Once in the
stratosphere, they release halogen atoms through photodissociation, which cat-
alyze the breakdown of ozone (O3) into oxygen (O2). Both types of ozone deple-
tion were observed to increase as emissions of halocarbons increased (Rowland,
2007). The scienti…c con…rmation of the depletion of the ozone layer prompted
the international community to establish a mechanism for cooperation to take
action to protect the ozone layer. This was formalized in the Vienna Conven-
tion for the Protection of the Ozone Layer, which was adopted and signed by 28
countries, on 22 March 1985. In September 1987, this led to the drafting of The
Montreal Protocol on Substances that Deplete the Ozone Layer. The principal
aim of the Montreal Protocol is to protect the ozone layer by taking measures
to control total global production and consumption of substances that deplete
it, with the ultimate objective of their elimination on the basis of developments
in scienti…c knowledge and technological information. The Montreal Protocol
requires the control of nearly 100 chemicals, in several categories. For each
group or annex of chemicals, the Treaty sets out a timetable for the phase-out
of production and consumption of those substances, with the aim of eventually
eliminating them completely. There are a few exceptions for essential uses where
no acceptable substitutes have been found, for example, in metered dose inhalers
(MDI) commonly used to treat asthma and other respiratory problems or halon
…re-suppression systems used in submarines and aircraft. Implementation of the
Montreal Protocol progressed well in developed and developing countries. All
phase-out schedules were adhered to in most cases, some even ahead of schedule.
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3. In view of the steady progress made under the Protocol, already in 2003, former
United Nations Secretary-General Ko… Annan stated “Perhaps the single most
successful international agreement to date has been the Montreal Protocol”.
His views are shared widely in the international community. On 16th Septem-
ber 2009, the Vienna Convention and the Montreal Protocol became the …rst
treaties in the history of the United Nations to achieve universal rati…cation.
1.2 Transnational Cooperation Dilemma
A realistic perspective demands that countries care only about their self-interests.
Therefore, every country wants to avoid paying for environmental protection,
which does not harm it’s interest. The countries’ behaviour is signi…cantly
shaped by the incentive structure and this can make countries wanting either
to free ride or to cooperate. When such incentives con‡ict, the behaviour can
be complicated. The country may not be interested to shut down a pro…table
industry polluting a river in its upper course to protect the interest of another
country into which the polluted river continues its course. The action taken by
the participants in this case are called international externalities. These exter-
nalities can have various features. These can be reciprocal (e.g. all the countries
are a¤ected by an action such as global warming) or asymmetric (e.g. coastal
countries are more a¤ected by global warming). The externalities can a¤ect
both production (destruction of crops in downstream due to polluted river) and
utility relationships (people around the world protesting against killing of dol-
phins). International regimes are often formed to coordinate behavior among
countries around an issue. However, it is a subject of debate whether interna-
tional regimes help to solve the transnational cooperation dilemma by bringing
the nations in the table of discussion. It has been observed that some regimes
worked and some did not. Although there have been about 300 environmen-
tal agreements till date, most of them have not been successful, but Montreal
Protocol shines among all the failure, underlining the importance of such inter-
national regime. Overcoming transnational cooperation dilemma also depends
on the environmental diplomacy and the acumen of the negotiators. The prob-
lem of ozone depletion was a¤ecting all nations, but if the negotiators were
unsuccessful, the Montreal Protocol would never be a success.
1.3 The Dilemma Game
The transnational cooperation dilemma can be best understood by dilemma
games. There are two branches of game theory, cooperative and non-cooperative.
Cooperative game theory assumes that agreements between players are binding
–they can be enforced by a third party. Non-cooperative game theory assumes
that agreements cannot be binding. Under the rules of international law, there
is no third-party enforcement. Hence, it is essential to model transnational envi-
ronmental problems as non-cooperative games. However, countries do attempt
to cooperate. Hence, cooperative game theory is also relevant to the study of
these problems. The decision to participate in an agreement is normally cast in
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4. a non-cooperative framework. By contrast, the decision of what participating
countries should aim to do in a treaty is normally modeled as a cooperative
game. The most fundamental concept of non-cooperative game theory is the
Nash equilibrium. An outcome is a Nash equilibrium if, given the choices made
by other players, each cannot gain by changing its own behavior. In study-
ing transnational environmental problems, it is natural to begin by describing
and analyzing the underlying game –that is, the game associated with purely
non-cooperative behavior. For the international pollution game, the Nash equi-
librium de…nes the non-cooperative outcome.
The transnational dilemma can be best understood by the Figure 1. This
dilemma game contains 2 players nation X and nation Y (Barrett, 2003). Both
have 2 options , viz. abate or pollute. Under normal conditions, the game is
played only once (it is not multi-stage) and it is played simultaneously, i.e. each
country chooses its option without knowing other’s decision. These conditions
contain everything that can push the agreement towards the ine¤ective Nash
Equilibrium. There are 4 outcomes,viz. abate-abate, abate-pollute, pollute-
abate and pollute-pollute. Associated with every feasible outcome is a payo¤
for each player as shown in the cells of Figure 1. Self interest dictates that
each nation chooses the best payo¤, however, they will also not like to lose
anything. Nation X and Y, both will prefer to play abate-abate compared to
pollute-pollute. However, if nation X plays abate and nation Y plays pollute,
then nation X actually loses and nation Y gains, and that is not acceptable.
Therefore, to be on the safe side, under the imperfect information condition
when nation X and Y are playing it without knowing what other will do, both
of them will play pollute-pollute so as not to lose anything in the process and
this is Nash Equilibrium.
Figure 1: The non-cooperative dilemma game
Therefore, in the book ‘The New Sovereignty’, Chayes et al (1995) stated
that the reason of the dilemma and arriving at the Nash Equilibrium is lack
of transparency and no communication. If the nations had a discussion, the
Nash Equilibrium could be avoided. However, another condition exists, i.e. if
the game is played a single time, then a dishonest nation can take advantage
of the other nation and play pollute to gain, which is again anticipated by the
honest nation, who will try to avoid its loss by playing pollute, reaching Nash
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5. Equilibrium. Introduction of penalty for the polluting party will not restrain
the parties from playing pollute because there is no third party enforcement
and nobody can make the guilty party pay up. Another risk in the IEA is
free-riding. A country can decide not to be a member of an IEA or to be a
member of an IEA that contributes less to the improvement of environmental
quality than members of other more contributing IEAs, and alternatively it can
decide not to comply with the terms of the agreement of which it is a member.
These are the reasons of introducing self-enforcing international environmental
agreements (IEA) which tries to improve on the Nash Equilibrium of the non-
cooperative outcome and, preferably, to sustain the full cooperative outcome.
Only sticks will not work, but carrots will also be needed.
2 Self-Enforcing Environmental Agreements
A self-enforcing IEA needs to be modeled as a stage game which is a part of
repeated games and it captures the idea that a player will have to take into
account the impact of his or her current action on the future actions of other
players; this impact is sometimes called his or her reputation. In this game, the
decisions of whether or not to participate in an agreement are separated from
the decisions of what signatories will do (or what the treaty should instruct
signatories to do) and what non-signatories will do. In a stage game, decisions
are made sequentially. If signatories are allowed to choose …rst, they act as
“Stackelberg leaders”, and so are given a “…rst mover advantage”i.e. they are
allowed to commit to an action, whereas non-signatories are not. In the stage
game, participation is a non-cooperative game. So is the decision regarding
abatement by non-signatories. However, the abatement decisions of signatories
are cooperative. It is assumed that signatories maximize their collective payo¤
both in and out of the equilibrium (Barrett, 2005). A country is assumed to
participate in a treaty if participation makes this country at least as well o¤ as
non-participation.
A self-enforcing IEA is credible in the sense that, given the participation
decisions of others and the requirements of the treaty, no signatory can gain
by withdrawing and no non-signatory can gain by acceding; signatories cannot
gain collectively by changing their aggregate abatement; and no non-signatory
can gain by changing its decision to abate. Each cooperating country selects
abatement level that maximizes it’s aggregate pay-o¤and each defecting country
maximizes individual pay-o¤. The revised dilemma game under such consider-
ations have been shown in Figure 2.
Recognizing that it is in their joint interest to play abate, the payo¤s in the
earlier Figure 1 needs to be cardinal. This means that the payo¤ from abate-
abate is exactly 1 unit greater than pollute-pollute. Suppose that every country
playing pollute needs to pay the other country a …ne of e2. Therefore, if nation
X plays pollute, it receives a payo¤ of e2 plus su¤ers a …ne of e2, which totals
to 0. The nation Y playing abate will have a payo¤ of -e1, but receives a …ne
of e2 from nation X, totaling to e1. This is shown in Figure 2. Thus, a nation
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6. Figure 2: Revised dilemma game under self-enforcing IEA
cannot gain by playing pollute and is forced to play abate. However, once again,
it should be borne in mind that this arrangement pays o¤ if the agreement is
binding on both countries, i.e. a self-enforcing IEA. Otherwise, nobody can
force the polluter to pay the …ne. There must be some incentive to play abate
rather than playing pollute and then not paying the …ne. Of course this is a
repetitive game and a nation will try to maintain a high order of reputation for
future payo¤s through other trade deals with other countries.
3 Considerations for E¤ective Cooperation
A number of conditions conducive to e¤ective cooperation between nations are
required in dealing with transnational environmental problems. Many of these
are idealistic and may not be present in all of the successful treaties. Some of
them are discussed in the following sub-sections.
3.1 Participation Bene…ts
International cooperation is di¢ cult to sustain because of requirement of una-
nimity. In contrast, local law can be introduced with a majority agreement (Os-
trom et al, 1999). However, it has been seen that when unanimity is required,
it often makes sustaining full cooperation easier, not harder. For eradication
of infectious disease, cooperation among every country is required because, if a
single nation fails to eradicate the disease, its strain will become stronger and
risk the other countries (Sandler, 1998). Therefore, the bene…t will be zero
to all countries if all countries do not cooperate, but the payo¤ will increase
non-linearly in case of complete participation. Bene…ts to each country con-
trolling the disease at home decreases in the extent of controls undertaken by
others, making disease control both a strategic complement as well as a strategic
substitute (Bulow et al, 1985).
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7. 3.2 Government-Industry Interactions
Firms will develop technology if it believes that the government will regulate the
pollutant in near future and thus create a demand for the substitutes (e.g. CFCs
in case of Montreal protocol). however, industry has little incentive to reveal
true cost of developing the substitute. They may even in‡ate the cost of R&D to
show this as a roadblock to the investment (Benedick, 1998:31). Therefore, the
government must be knowledgeable to decide upon the regulation. Credibility
of the government is another issue. Industry will invest for substitutes if it
believes that a market really exists and that the government will really regulate
it. If industry does not invest in innovation, then it is costly for government to
implement restrictions. Self-regulating IEAs help to create these credibility of
the government and force the industry to innovate.
3.3 Treaty Bandwagons
In order to reach the preferred equilibrium of abate-abate, an agreement is
extremely necessary to kickstart the process. Once more than 2 countries sign
the treaty, then eventually other countries start to participate. To get the
bandwagon going, the agreement needs to assure that every signatory plays
abate through legally binding clauses and progress towards ratifying the treaty.
This creates an environment where becoming a signatory of the treaty becomes
a weakly dominant strategy for every country. Even by minimum participations
at the earliest stages, the signatories should stand to gain incentives.
4 The Problem of Trade Leakage
If IEA signatories clamp on pollution, then polluting industries may shift to
non-signatories resulting in minor reduction of global pollution. This will result
in +ve trade leakage due to production relocation e¤ect. However, there will
be two other e¤ects. Abatement e¤orts by signatory countries may push up the
polluting material’s price in the international market causing consumer to opt
for cleaner goods. Conversely, the non-signatories producing the polluted goods
may gain from the higher price of these products. When all these e¤ects are
added up, leakage may be positive or negative. For an example, India bought a
CFC plant in 1988, one year after Montreal Protocol in order to meet the de-
mand of internal market as well as for supplying to non-signatories (Copeland
&Taylor, 2000). Positive trade leakage needs to be plugged by increasing par-
ticipation.
Trade leakage can theoretically be plugged by adjustment of border taxes on
polluting substances. Supplementing pollution tax with tari¤ on imports from
non-signatories and subsidy on export from signatories to non-signatories can
also neutralize the trade leakage. However, calculation of border tax is very
complex. Especially for polluting goods produced across two or more sectors,
the calculation of taxes must account of distortions between sectors. Also,
border taxes may clash with WTO or GATT guidelines which rally for free
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8. trade, unless the goods harm life & nature (Benedick, 1998). If participation
is full, leakage will be zero. Therefore, if trade leakage cannot be ruled out by
imposing border taxes, subsidies and tari¤s, it can perhaps be stamped out by
policies that punish non-participation and deter free-riding in the bargain, as
was observed in Montreal Protocol.
5 Carrot, Stick and Montreal Protocol
Main achievement of Montreal Protocol was to require that the production and
consumption of a number of CFCs be cut by half (from their 1986 levels) by 1999
and that production and consumption of certain halons be stabilized at their
1986 levels. Montreal is a success because the negotiated cuts were achieved
and was rati…ed by 2009.
5.1 Compliance
The compliance with Montreal Protocol was absolute and complete across the
world. However, the path to success was not easy and it faced many challenges.
Industrialized countries wanted to comply with the Montreal protocol for na-
tionalistic reasons. The developing countries complied due to compensations
received and they had no incentive to cheat. However, during 1987, there were
9 countries from central & Eastern Europe- which got divided to 27 states in
1996. Many of these new countries lacked a well structured government to im-
plement the Montreal Protocol. In spite of that, Montreal did not adjust to
the changed status of these countries and kept the pressure on. It imagina-
tively deterred non-participation by using vague provisions for non-compliance.
There was no clear guideline for non-compliance mechanism, but still these
states thought that they will be worse o¤ if they withdraw from the Montreal
Protocol and stayed. Non-compliance clause was elaborated at a later date and
inclusion of such clauses at initial stages could stall the negotiations on legal
…ne prints (Benedick, 1998:270). Russia issued threat of non-compliance, but
faced trade restriction and lose of funding. In 1996, Russia issued a reconcil-
iation letter and complied. Global Environment Fund subsidized Russia with
additional $35 million towards CFC substitution.
Most IEAs make no provision for non-compliance mostly due to their high
cost of implementations and impracticality. It may also mean that for self en-
forcing agreements, inclusion of non-compliance clauses are unnecessary. The
fact that they are rarely used signify that other mechanisms for deterrent are
more important. Mere threat of imposing non-compliance such as trade restric-
tions, sanctions and border taxes can ensure compliance. Moreover, sanctions
are rarely granted and ine¤ective when granted. Additionally, sanctions impose
cost to sanctioner, which it do not want to bear (Chayeses, 1995:32-33).
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9. 5.2 Trade Restrictions
Trade restrictions can be used for two purposes, viz. to punish countries for
non-cooperating and to compensate a country for a loss in competitiveness due
to cooperation. The Montreal Protocol, bans trade between signatories & non-
signatories on the CFCs. Other materials produced using CFCs (e.g. computer
chips, refrigerators, etc.) also had provisions being banned in future. The
threat to do so gave incentives to industrialized and export oriented countries
like China to participate (Van Stoolen 1994, Brack 1996). However, it should
be kept in mind that trade ban is a blunt instrument for controlling leakage, but
it is very e¤ective in deterring non-participation. Without restrictions, leakage
will have shrunk CFC substitutes making the Protocol ine¤ective and reduce
the incentives to develop e¤ective substitutes (Benedick 1998:91). At least in
the cases of Taiwan, Myanmar, Japan and South Korea, the diplomats have
confessed that the governments acceded due to trade restriction (Brack 1996).
5.3 Side Payments
The developed nations completely avoided the topic of side payments to the
developing countries in 1987 original negotiations of Montreal Protocol. The
reason was that the industrialized countries stood to gain most from the 1987
negotiations. Later, as the terms of Montreal Protocol were strengthened, costs
of participation by the industrialized countries shot up compared to the bene…t
and they started to su¤er loss. Therefore, it was in the interest of developed na-
tions that compensation packages were introduced along with trade restrictions
to ensure participation of developing nations. This was done through London
Amendment (1990). Also, with introduction of trade restriction clauses, the
participation of developing countries increased from 60 to 175. Among these
signatories, 130 quali…ed for assistance from Protocol’s Multilateral Fund. In-
dia, China and several transition economies received assistance and joined the
Montreal Protocol without which it would have fall far short of its target.
5.4 Morality
Trade restrictions can be used to deter free-riders and non-signatories. How-
ever, some countries emitting pollutants may not be bene…tted from abatement.
Trade restriction will force them to impose abatement measures, but that not
be fare on their economy. Such restrictions on poor countries may bring mis-
ery to the population. Therefore, the compensation clause in the IEA should
provide for any loss the poor countries may su¤er, incentivizing them to com-
ply. In the Montreal Protocol, a Multilateral Fund was created to encourage
countries such as India and China to be part of the Protocol, without whose
participations, Montreal would have never been successful. Both compensation
and trade restrictions were responsible for the success of Montreal Protocol.
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10. 6 Conclusions
Global commons are often threatened by transnational environmental prob-
lems simply because no mechanism for exclusion exists to keep o¤ nations from
harming vulnerable resources. The way to solve such international problems are
to create an international regime that will have self enforcing capabilities and
thus bind the nations in legal frameworks. In absence of any supreme world
power dominating all the sovereign governments, the transnational environmen-
tal agreements need to perform mainly two functions, viz. (i) ensure maximum
participation by nations through restructuring incentives among the participants
so that the nations are well o¤ by playing abate and (ii) deter non-participation,
non-compliance and withdrawal by nations using a number of carrot and stick
measures. In the international game of treaty making, the equilibrium always
tend to lie at the Nash equilibrium, which prompts the nations to play pollute-
pollute which is ine¢ cient. The IEAs need to be self-enforcing so that the
equilibrium moves to the point abate-abate, i.e. nations will be well o¤ if they
play abate and will be worse o¤ either if they do not cooperate or participate
in the agreement. Threat of imposition of trade restrictions acts as stick and
compensation for lost trades among signatories acts as carrot to attract large
number of participants. International regimes are important to create a treaty
bandwagon and start the process of the treaty making. Participation in num-
bers is the key to successful international cooperation simply because if more
nations are outside the treaty than inside, there will be high trade leakage and
the signatories will su¤er loss. The IEAs should be attractive to the countries
once the bene…ts received from staying in it far outweighs the cost incurred
and the actual bene…ts are distributed among the participants evenly. Montreal
Protocol demonstrates all these key points essential for a successful IEA, all
the way from negotiations, participations and modi…cations until rati…cation
process. Montreal Protocol demonstrates how environmental sustainability can
be achieved through international cooperation.
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