The Regional Economic Effects of a Reduction in Carbon Emissions and an Evaluation of Offsetting Policies in China

China has promised large cuts in CO2 emissions by 2020, a policy which is likely to have differential effects across regions but we know little about the regional effects of pollution reduction. We make a contribution to filling this gap by using a small theoretical model with two regions, some features of the Chinese economy and the right to emit CO2 as a factor of production. We find regionally differentiated effects of a pollution cut on income, welfare and output. We also explore government policies designed to reduce the effects of a carbon cut. The effects of fiscal policies depend crucially on whether one or both regions and on whether the focus is output or welfare are targeted. Boosts to productive capacity do better in terms of output but not welfare.