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ECOLOGICAL
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ELSEVIER

Ecological Economics 21 (1997) 35-43

ANALYSIS

An overlapping generations model with exhaustible resources and

stock pollution
P. Guruswamy Babu *, K.S. Kavi Kumar, N.S. Murthy
Indira Gandhi Institute of Development Research, Gen.A.K. Vaidya Marg, Goregaon (East), Bombay 400 065. India
Received 22 May 1995; accepted 26 June 1996

Abstract
This paper analyzes the nexus between resource exhaustion and pollution externality using an overlapping generations
framework where each generation lives only for a finite period. For a finite horizon model with production where there are
many agents per generation, the Pareto inefficiency arises due to lack of intragenerational coordination and is propagated
across generations. The tax rates necessary for correcting this externality are characterized. We also derive a modified
Hotelling rule according to which the equilibrium resource price rises slower than the rate of interest in order to account for
the damages due to the pollution stock generated by the resource used. For the case where the externality induced damage
acts on production rather than the utility function, Pareto inefficiency is shown to persist even when there is intragenerational
coordination.

Keywords: Overlapping generations; Exhaustible resource; Pollution stock; Hotelling's rule

I. Introduction
The question that occupies the center stage of
present day policy making debates is whether or not
one can reach a tradeoff between material well-being
and environmental quality, both of which are outcomes of economic growth. Economic growth necessarily entails use of natural resources (both exhaustible and renewable) in the production process
which in turn results in increased pollution. But,
when the resource in question is exhaustible, one
gets into another tradeoff: that of immediate gains
from the resource extraction and future losses due to

* Corresponding author. Fax:

babu@agni.emet.in.

+91-22-8402752;

e-mail:

non-availability of that resource. This tradeoff has

been analyzed in the literature thoroughly,
The other link between the increased resource use
(which is necessary for increasing production in the
absence of substitute technologies) and the resultant
environmental degradation has come to the attention

The classic paper in this literature is that of Hotelling (1931)

wherein he shows that the price associated with the optimal
extraction of an exhaustible resource grows at the market rate of
interest. See Dasgupta and Heal (1979) and Fisher (1981) for an
overview of results in this area. The issue of in~rgenerational
allocation of the resource under various ethical criteria are considered in Solow (1974), Baumol (1980) and Riley (1980). For an
overlapping generations model with exhaustible resource, see
Howarth (1991a); Howarth (1991b) and Howarth and Norgaard
(1990).

0921-8009/97/$17.00 Copyright 1997 Elsevier Science B.V. All rights reserved.

PII S 0 9 2 1 - 8 0 0 9 ( 9 6 ) 0 0 0 8 9 - 4

P. Guruswamy Babu et al.// Ec ological Economics 21 (1997) 35-43

36

of the researchers only recently. A prominent example of such a link would be global climate change
caused by excessive fossil fuel consumption. In such
a context, one wonders what would happen when a
global negative externality such as stock pollution
(say, CO 2) is produced by the use of an essential
exhaustible resource. Will this interlinkage between
resource and pollution change our basic results considerably? If so, what should be the corrective mechanisms needed to achieve efficiency?
It is well known from economic theory 2 that the
presence of an externality will hinder the efficiency
of the market mediated equilibrium outcome. The
standard prescriptions to remedy such an inefficiency
are either a tax or creation of a market via property
rights or quotas. The papers in this area have traditionally concentrated on models with infinitely lived
agents and have focused either on resource extraction or pollution stock; see for example, Gottinger
(1992). Only recently, Howarth (1991a); Howarth
(1991b) and Howarth and Norgaard (1990) have
developed an overlapping generations (hereafter,
OLG) model to analyze the exhaustible resource use;
John and Pecchenino (1994) focus attention on pollution stock problems using an OLG framework.
Howarth and Norgaard (1992) address the climate
change problem in an OLG framework where they
highlight the interlinkages between the environmental valuation and asset transfer between generations.
Withagen (1994); Ulph and Ulph (1994); Sinclair
(1992) and Sinclair (1994) are among the first to
explicitly recognize the link between the resource
exhaustion and pollution stock problems; they do so
through a Ramsey type intertemporal planning model.
Krautkraemer (1985) is an early reference which
addresses the link between preservation of natural
environment and the opportunity cost of resource
extraction in the presence of technological progress.
Withagen (1994) characterizes the steady state
resource extraction path in a model which does not
consider the possibility of production; John and Pecchenino (1994) also exclude production from their
analysis. Sinclair argues that the tax rate on resource
use (to control the pollution stock) should be falling
as the resource becomes scarcer (Sinclair, 1992;

2 See Baumol and Oates (1988).

Sinclair, 1994). On the other hand, Ulph and Ulph

(1994) point out that such a result is possible only
under restrictive assumptions, and that in general the
tax path would initially rise and then fall. The basic
argument underlying both the results is that a ton of
carbon emitted today is more damaging than the one
emitted tomorrow. These results have been derived
under the assumption of no depreciation of pollution
stock. For related empirical results, we refer the
reader to Nordhaus (1994). He develops a dynamic
integrated model of climate and the economy (DICE
model) using Ramsey framework for optimal growth.
He calculates optimal paths of capital accumulation,
emission reductions and carbon tax using the DICE
model. However, he does not explicitly model resource exhaustion.
In this paper, we intend to analyze the nexus
between resource exhaustion and pollution using a
more realistic framework of OLG with production
where each generation lives only for a finite period.
Our main results are as follows: For a finite horizon
model with production where there are many agents
per generation, the Pareto inefficiency arises due to
lack of intragenerational coordination and is propagated across generations. The tax rates necessary for
correcting this inefficiency are characterized. We
also derive a modified Hotelling rule according to
which the equilibrium resource price rises more
slowly than the rate of interest in order to account
for the damages due to the pollution stock generated
by the use of resource. For the case where the
externality-induced damage acts on production rather
than the utility function, Pareto inefficiency is shown
to persist even when there is intragenerational coordination.
This paper is organized as follows. In the next
section, we develop the basic OLG model where
each generation is comprised of n identical individuals. The solution to the social planner's problem is
analyzed in Section 3. The Section 4 derives the
market equilibrium conditions by analyzing both the
individual consumer's and the firm's problems. By
comparing the above solution with that of the social
planner we establish the existence of Pareto inefficiency. The tax paths needed to correct this inefficiency are characterized in Section 5. Section 6
concludes the paper. In the Appendix we look at the
case where there is intragenerational coordination

P. Guruswamy Babu et a l . / Ecological Economics 21 (1997) 35-43

and show that when the externality induced damage

acts on production rather than the utility function,
Pareto inefficiency persists. The Appendix also contains the characterization of the tax path when pollutant stock depreciates.

2. T h e b a s i c m o d e l

In this section, we develop the basic OLG model

for analyzing the nexus between resource exhaustion
and pollution. In our model, there are finitely many
generations, say T. 3 Every generation consists of n
individual agents/families who live for two periods
each. For example, during time period t there will be
n agents in the old generation represented by G~_ t.,
overlapping with n agents in the young generation
represented by Gi,a. Agents G it_ ~,, and G,i., need not
belong to the same family i; here resource/capital
stocks are transferred from G,_ ~.t to Gt. t. A typical
agent born at time period t is c a l l e d Gf. t when young
a n d G~.t+ t when old. Note that the first subscript
stands for the generation to which the agent in
question belongs, second for her age and the superscript denotes her identity.
A representative agent a{, t w o r k s when she is
young during period t and consumes in her old age 4
(i.e., C{.,+ l) during period t + 1. Note that by definition we rule out the consumption when young; i.e.,
C{., = 0. At the beginning of the time horizon (i.e.,
t = 1) there is one young generation whose agents
GI. ~ are endowed with a capital stock K~ and an
exhaustible resource stock S~. Thereafter in subsequent time periods ( t > 1) the resource and capital
stocks are owned by the members G[_ i,t of the old
generation. The production technology is owned by a
representative firm which maximizes current period
profits in a sequential manner over periods I . . . . .
T+I.

3 The restriction to finite generations does not affect the generality of our results since the first order conditions do not change
as the time horizon becomes infinite. Also, one could assume that
each member (or family) of generation T lives infinitely after
period T.
4 This simplifying assumption is standard in OLG models.
Also, it does not affect our results as our primary focus is not on
the trade-off between present and future consumption.

37

The firm produces a homogeneous commodity

using capital ( K ) , labor (L) and an exhaustible
resource (R) in each period. The constant returns
production technology is given by: Yt = Ft(Kt, Lt,
Rt). The notion of the representative firm implies
that it is a price taker. That is, it does not set the
prices for K t, L t and R t. These are instead determined competitively in the markets for capital, labor
and resource, respectively. The labor in period t is
supplied inelastically by agents G~., and is normalized to 1 unit for each agent. The production function F, has the usual neoclassical properties:

OF,
-->0,

OK,

OF,

c92F,

c92F,

~ < 0 ,

~ < 0 .

. >0,

OR,

OK~

OR~

The exhaustibility of the resource 5 is captured by

the following equation:
T+ 1

s, = E R,.

(1)

t=l

Note that R t = E i =" ~(S,i S,+L).

t
That is, the
amount of resource used by the firm is equal to the
change in stocks of the resource held by the agents.
The use of resource results in environmental pollution which is represented at the beginning of time
period t by a stock variable E,. The pollution stock
increases in each period by a quantity directly proportional to the amount of resource consumed (by
the firms); the emission coefficient is denoted by /3.
But this pollution stock depreciates by a constant
fraction b in each time period through natural phenomena. The stock of pollution evolves according to
the following state equation:
Et+ , = ( 1 - b ) e , + f l R ,

(2)

A part of the firm's output goes as wages (w t) to

the young generation G[, t, and the old, G ti l.t' receives r tK[ from the firm as interest on the use of
their capital; the firm also pays p~R t to the old
generation for making use of the resource owned by
them. Here, G and P, stand for the interest rate and
resource price in period t, respectively.

5 Resource exhaustion need not necessarily involve complete

physical exhaustion of the resource stock; it is sufficient to
assume that a resource is exhausted whenever extraction costs far
outweigh the resource price. We do not explicitly introduce
extraction costs in our model.

P. Guruswamy Babu et al. / Ecological Economics 21 (1997) 35-43

38

The young agents (7,.' buy the ownership fights

for the resource stock S]+ l at price p, and capital
stock K]+ t out of their income. The income of the
young would be comprised of lump sum transfers Tti
from the old 6 and the wage earnings w/. In her
second and final period t + 1 of existence, the representative agent G t,t+l
i
earns her income from the
following sources: (i) the rental on capital stock,
rt+tK]+ j, (ii) the revenue from the resource employed by the firm, Pt IRI+I and (iii) the proceeds
from selling to the young agents the property rights
of her resource stock which are not sold to the firm,
Pt+ iS~+ 2 and capital stock, K]+ i.
The ith agent of generation t derives her utility
Ut'' from her old age consumption Ct.,+
~ I and suffers
the disutility from the overall pollution stock, E, t.
Each member of a given generation maximizes her
utility U/(C[.,+ t, E,+ t). The utility function satisfies
the usual properties:

OU/
- - i> 0 ,
OCt,t+ 1

02U/

course, is the familiar notion of Pareto efficiency.

The social planner optimizes the utility of a representative agent of a representative generation, holding
the utility of other agents within the chosen generation and those of the other generations at given
levels within a set of technological and resource
constraints. Such a problem could be written as:
maximize U~(C{.2 , E 2 )
Subject to the following constraints
i
i
U~(Ct,2,
E 2 ) = U- - '~ for / :~ j

u'tc'
t ~ 1,/+ I ' E , + , ) = E
FI(L,,K,,R,)+g,=K
for t = 2 . . . . . T

KT+ I = Cr.r+ J
T+ 1

OC[~t+ 1

s,- ER,=0

0E2+ i

Note that each agent G I,!

i behaves selfishly in the
sense that she takes into account only her welfare,
U / i n making her decisions and ignores the disutility
caused to others by the public bad, flRi+ t, created
by her choice of selling the resource stock, RI+ t, to
the firm as against the choice of conserving it, i.e.,
selling it to the agents of the next generation,

,.,+ ,3. P l a n n e r ' s p r o b l e m

We develop a social planner's model in this section. The social planner's problem is to optimize
resource allocation and consumption decisions across
different generations simultaneously so that no
agent's (generation's) utility can be increased without reducing the same for someone else. This, of

6 In our model, bequests arise purely as b u d g e t b a l a n c i n g

entities. W e d o not focus attention on issues s u c h as intergenerational altruism.

"''~'

2 (A,)

F , ( . . . ) = Ct_ 1., + K,+l -- Kt

~ < 0 ,

-->0,

for,=2,

and i = 1 . . . . . n

0 2U,i
--<0,
aE,+,

(3)

(at)

( AT+ 1)

t=l

E,+t-(l-b)E,-fiR,=0fort=l

..... G

Note that the expressions for consumption, capital

and resource without the superscript term in the
above equations represent the gross values for the
entire generation, i.e., summed over all i = l, 2 . . . . .
n. The symbols A a n d / z stand for the corresponding
Lagrangean multipliers. One should also note that
the solutions to the social planner's problem depend
crucially upon the values chosen for Uj. By varying
them in a parametric fashion, the social planner is
able to generate the complete set of alternative Pareto
optimal allocations of resources.
Solving the resultant first order conditions of the
Planner's problem, we get the following solution:
1 + OF'+t

OK[+ j )
=

(1 -- b)OF,+

i l + n'q~3 + blz/A,+ l
t/OR~+

OF,/ORI

In the above solution, //,/At+ | corresponds to the

shadow price of the resource relative to the consumption good. Note that the shadow price of the
resource is not just equal to its marginal product; the

P. GuruswamyBabu et al. / EcologicalEconomics21 (1997)35-43

planner also takes into account the disutility suffered
on account of pollution, as discussed in paragraphs
following Eq. (5). The term r/i is given by
outi/OEt+

when she is indifferent between the two choices.

Hence, we get

(OFt+,)

OFt

OFt+,

1+

ou// cb+,
This represents the additional consumption which
must be provided as compensation to the consumer
for increasing pollution stock by an additional unit.
Such compensation would leave the consumer on the
same utility level as before.
When there is no depreciation o f pollution stock
(in other words, there is no natural sink for greenhouse gas emissions), the depreciation parameter b
will be equal to zero in the above expression. This
will give us

OFt+, ) = OF,+p/OR,+
i t + nrli[3

I'I

39

+ oKj+,

OV,/ORI

(5)

This expression can be interpreted as a trade-off

performed by the social planner in the following
manner. The planner has a choice between allocating
a given unit of resource in period t or in t + 1. If the
resource is used in period t, then an additional
output given by

oR,---5,

Note that Et+ z and other variables corresponding

to periods other than t and t + 1 are undisturbed in
the above decision process.

4. The market equilibrium

The previous section provided the planner's solution to the resource allocation problem. In this section, we consider the individual decisions of consumers and profit maximizing firms and obtain the
solution as an outcome of a competitive market
economy.

4.1. The consumers' problem

Recall that each agent in a representative generation lives for two periods and works when young and
consumes when old. Let this representative agent G t,t
i
maximize her utility subject to her budget, consumption and environment constraints. Her optimization
problem can be written as follows:

OF,

i ~, E , + , )
maximize U,i (C,.,+

OR,

subject to

is realized in period t. This can be converted into

capital and used in period t + 1 to give the following
total return in period t + 1:

Pt S ti+ l + K t +i l = w[ -4- Zti

C t,t+
i I =(l+r,+l)K{+,+pr+,S]+,-T,i+,
e,+, = (l - b)E, + t

(6)

E(s/- s/+,)
J

oR,

l +

"

But, at the same time, additional cost (viz., the

consumption equivalent of damages caused by extra
pollution stock) measured as nrt~ is imposed on the
consumers in period t + 1. Thus, the net benefit in
period t + 1 can be found to be

OR,

l +

OKt+ i

where T/ is the transfer which agent G{., receives

from her ancestors G,_ I.,.
Solving the first order conditions 7 gives us
Pt+ l + "0~

= 1 + r,+ ~

(7)

P,
where ~/i remains as defined earlier in Section 3. We

- n~j~.

On the other hand, if the planner chooses to

allocate the resource for use in period t + 1, then an
additional output OFt+I/OR,+ I is obtained. The
planner reaches an optimal allocation of resources

7 The first order conditions for this problem are as follows:

aL/~C.,+, = av'/acb+, + 4 = o; ~L/aS~+, = au,'/as;+,

- a l p , - a~/,,+, =0; aLlaXj.,)= a ' , - ( I + r,+,)a~ =0.
Here, L stands for the Lagrangean and A'j and h~ are the
Lagrangean multipliers corresponding to the budget balance and
consumption constraints, respectively.

40

P. Guruswamy Babu et aL / Ecological Economics 21 (1997) 35-43

use the following conditions in deriving the above

expression:

aU, i

aF,

OU,i c9Ei+,
r, =

ae,+, as +,

as[+,
OEt+ 1
i

(9)

OKt

ar,
p,= --

and

OSt+ l

where W is the total wage bill. The first order

conditions will be

(it)

OR t
~

--/3"

From the zero profit condition, we note that

This would lead us to

F t ( . . . ) - r , K , - p, R t = W t
as evaluated at the first order conditions.

"

4.3. Equilibrium
Eq. (7) can be interpreted as a modification of the
Hotelling's rule for the case where there is a nexus
between use of an exhaustible resource and the
damages from the resultant pollution stock.
Hotelling's rule of optimal resource extraction tells
us that an additional unit of resource will be conserved only if the resource price rises at a rate faster
than the market rate of interest. From the above
solution we observe that an additional unit of resource would be conserved even if the resource price
is rising slower than the market rate of interest. Since
r/~3 in our solution is positive,

The market equilibrium obtained by combining

the firm's and consumers' optimization problems is
as follows.

OFt+ I/OR,+, + 71/3

OF,/OR,

OFt+ 1
OK,+

(ll)

(8)

Comparing this equilibrium solution to that of the

social planner obtained earlier (Section 3), one can
see that it is not Pareto efficient. This is true for the
cases where there is (and is not 9) depreciation of
pollution stock. The reason for this inefficiency is
not hard to find. Each agent G t,ti while choosing
S~+ ~ considers the reactive choice by other agents in
her generation and thus collectively forces a choice
Rt which produces pollution /3R t. But, she does not
consider the damages suffered by other agents
through her choice of S[+ ~. She considers only her
marginal disutility of pollution stock. This is, of
course, the classical externality problem in a static
setting.
The presence of multiple agents per generation
can be likened to the current state of affairs in
climate change negotiations relating to greenhouse
gas abatement. There are several parties/countries
or groups of countries which are likely to behave
independently. These could include: oil producing
countries, developed countries, developing countries
and island states. There could be further subdivisions
among these groups; for example, developing countries could in turn be comprised of large and small
countries.

s Note that this is single period profit; there is no look ahead

feature for the firm here.

9 When there is no depreciation of pollution stock, the planner's

solution will be as given in Eq. (5).

P:+ I

Pt >

(1 + r t + l )

Of course, the rate of price change cannot be too

much lower than the interest rate; otherwise it would
be profitable to exhaust rather than conserve. This
result comes about because an increase in one unit of
resource use in period t increases the pollution stock
by 13 in period t + 1, and this in tam will reduce
utility by r/~3 in consumption units. That is, there is
an additional disutility caused by damages due to
higher pollution stock earlier on, which in turn arises
because of the preponement of resource use. Hence,
the conservation is favored.

4.2. The firm' s problem

The firm
function 8.

maximizes

'n'/= F , ( . . . ) - W t - r t K t - P t R

the

following

profit

41

P. G u r u s w a m y Babu et al. / Ecological Economics 21 (1997) 3 5 - 4 3

However, when there are multiple agents in each

generation, they are unable to cooperate on buying
the optimal (from planner's perspective/Pareto efficient sense) amount of resources. Each agent might
think of free-riding on the altruism shown by other
agents towards the next generation in providing for a
good state of environment (Howarth and Norgaard,
1992). Hence, each agent buys individually and has
to take the buying decisions (the reactions) of others
in her generation as given. While she is able to spot
the likely damages suffered by aggregate choice, she
does not take into account the possible damages
incurred by others due to her choice. L0
If there is intragenerational coordination between
agents, the externality created by the pollution stock
is completely internalized by their participation in
the existing market for exhaustible resource. Even in
this scenario, inefficiency could arise due to other
reasons. We consider one such case in Appendix A,
where the pollutant stock damages impinge on the
production function rather than the utility function.

5. Tax analysis
In this section, we introduce specific tax in case
of multiple agent generations to correct for the pollution stock externalities when there is no pollution
stock depreciation (i.e., b = 0). The results for the
case where there is depreciation of pollution stock
(b ~ 0) are shown in Appendix B. The tax collected
by the government is returned in lump sum fashion
to the agents; it may be assumed to form a part of
the intergenerational transfers T/.
Consider a case where the government imposes a
specific tax (%) on the firm's resource use. This tax
results in an increase in the resource input price
which leads to the following profit function of the
firm:
"n"= F , ( . . . ) - w t - r , K , - ( ~ ' , + p , ) R ,

The first order conditions will be

OF,
r I --

(13)

aK,

(pt+Tt)

=--

(14)

ORt

Under the specific tax scenario, the market equilibrium will change as follows.

c~FJOR, - '7"t

=l+--

OKt+ I

(15)

Now, by equating the above market equilibrium

with the social planner's solution, we get the following specific tax path which would correct the externality in question and result in Pareto efficient allocations.

rt+r, ' - 1

)OFt+,(1-n)'q[3
: ~--~,+-, +

r,

(16)

One cannot unambiguously conclude about the

specific tax trend. The tax path will increase if the
marginal productivity of capital exceeds marginal
substitution between pollution and consumption (viz.,
7/) weighted by (1 - n)fl/'r,.
This result should be contrasted with those of
Sinclair (1992); Sinclair (1994) and Ulph and Ulph
(1994). For a representative agent generation model,
the tax path would be unambiguously increasing as
can be seen by setting n = 0. Such increasing tax
paths might arise due to the fact that the burden
imposed by the earlier generations in terms of pollution stock (when there is no depreciation) accumulates over time; hence, the marginal disutility borne
by the generations increases over time. To offset
this, the social planner increases the tax rate over
successive time periods so that the incremental pollution will be kept at the optimum.

(12)
6. Conclusions

~0 We have, of course, assumed symmetry in the behavior of all

agents within a generation. Even in a symmetric situation, no
agent will be willing to c o m m i t unilaterally to a resource conservation target. In an asymmetric situation, there will be additional
complications.

In this paper, we have analyzed the nexus between resource exhaustion and pollution externality
in an OLG framework. We have taken production
(which uses an exhaustible resource) and the resul-

42

P. GuruswamyBabuet al./ EcologicalEconomics21 (1997)35-43

tant pollution stock build-up into account. Within

this basic framework where each generation consists
of many agents, we compared the resource allocation
under market equilibrium with that chosen by a
social planner (Pareto efficient allocation) and
showed the Pareto inefficiency of the former. For the
case where the externality-induced damage acts on
production rather than the utility function, Pareto
inefficiency is shown to persist even when there is
intragenerational coordination. Next, we considered
the case of tax on resource use imposed by the
government to correct for the externality. For a
specific tax, we get the tax path by comparing the
equilibrium solution with that of the planner. Future
work could look at relevant issues such as the presence of intergenerational altruism, extraction costs
and technological progress in an OLG framework
similar to the one formulated in this paper.

Acknowledgements

We assume without loss of generality that there is

no depreciation of pollution stock. The planner's
solution is given by
1+

Et+ I OKt+I
E,+ ,( OFt+ ,~OR,+, - a[3/Et+ , )

OtL
The market equilibrium will be

(
1+

OFt+! ) Et+I(OF'+I/ORt+I)=
ET+, OK,+,

ET(OF,/OR,)

Note that the market equilibrium is inefficient

(compared to the plarmer's solution),
Introducing a specific tax on resource use by the
firm to correct the above inefficiency, we arrive at
the following tax path.
r,+ )
OFt+ I
tflE~+-I l
% - 1 = ET+ l OKt+--t + % O F J O R ,

We thank Peter Cook and three anonymous referees for their comments. Specifically, this revision
has benefitted from the extensive suggestions offered
by one of them; another reviewer pointed out two
errors in the previous version. We are most grateful
to both of them. The usual disclaimer applies.

The positive time trend of the tax path in this case

does not hold as unambiguously as in our earlier
result since a is negative.

Appendix A. Pollution stock affects productivity

In this Appendix, we consider the case of depreciation of pollution stock and its effect on tax paths
when pollution stock enters the utility function.
The specific tax path under such a situation is
given by

In this Appendix, we consider the case where

pollution stock affects production technology rather
than the utilities as modeled in Section 2. The production technology of the representative firm changes
as follows.
H,( ... ) = E T F ,

where F, has the same expression as the previously

defined production technology. Here, a ( < O)represents the negative effect of pollution stock on the
firm's output.
For simplicity, we model a representative agent in
each generation instead of n distinct agents which in
essence means that there is intragenerational coordination. The utility function of a representative agent
in each generation now depends only on her old age
consumption.

Appendix B. Tax paths when pollutant stock depreciates

('l't+l 1)
Tt

0F,+,
-m+
OKt+ t

rt

+ L(0F,+I

,,)

Here, /z and At are the shadow prices associated

with the resource and consumption good constraints.
Under the following conditions, the specific tax
will grow at a positive rate. The marginal productivity of capital should exceed the marginal substitution
between pollution and consumption (viz., r/)
weighted by (1 -n)fl//7" t and the marginal productivity of the resource should be greater than the

P. Guruswamy Babu et al. / Ecological Economics 21 (1997) 35-43

relative price of the resource stock in consumption

good units.

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