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This paper studies the efficiency of decentralized leadership in federations where selfish regional governments provide regional and federal public goods and the benevolent central government implements interregional earmarked and income transfers. Without residential mobility, unlimited decentralized leadership is efficient only if the center implements redistributive interregional income and earmarked transfers to equate consumption of private and regional public goods across regions. Such policies perfectly align the incentives of the selfish regional governments. With imperfect residential mobility, decentralized leadership is efficient if the center adopts redistributive interregional income and earmarked policies and there is a common labor market in the federation.

In a domestic market, a duopoly produces a homogeneous final good, pollution, pollution abatement and R&D. One of the firms (foreign) has superior technology. The government regulates the duopoly by levying a pollution tax to maximize domestic welfare. We consider the potential implementation of three innovation agreements: cooperative research joint venture (RJV), non-cooperative RJV and licensing. In the cooperative (non-cooperative) RJV, the firms (do not) internalize R&D spillovers. We show that, for the domestic firm, the cooperative RJV dominates and licensing is the least desirable alternative. Although licensing is dominant for the foreign firm, it is not implementable. Both RJVs are implementable. While the non-cooperative RJV is more likely the greater the degrees of asymmetry (in terms of efficiency and R&D spillover rates) between the firms, the cooperative RJV is more likely the lower the degrees of asymmetry. Implementation of both types of RJVs improve the competitiveness of the domestic firm and welfare. A subsidy policy that induces the foreign firm to accept a feasible cooperative RJV when it strictly prefers a feasible non-cooperative RJV is always welfare improving.

This study compares energy and emission taxes used to control pollution and provide incentives for the adoption of an advanced abatement technology in a Cournot oligopoly. We examine multistage games where the government may intervene in order to maximize social welfare by setting an environmental tax rate. When the government intervenes, it levies either an energy tax or an emission tax. We show that the effectiveness of either type of tax depends on the shape of the multiproduct technology. In the absence of economies of scope in the production of energy and abatement, the energy tax reduces pollution but is ineffective in promoting technological change. The emission tax reduces pollution and is effective in promoting technological change for sufficiently small fixed costs of adoption. In the presence of economies of scope, firms may adopt the efficient technology even in the absence of taxation. When taxation is necessary for innovation, both types of taxes are effective. However, the energy tax outperforms the emission tax in terms of innovation incentives.

We examine the noncooperative provision of an impure public good by regional governments in a federation similar to the European Union, where regional governments are Stackelberg leaders and the central government is a Stackelberg follower-a federation with decentralized leadership. The center redistributes income and provides budget-balanced lump-sum matching grants after it observes the regions' contributions to the impure public good. Imperfectly mobile workers react to regional and central governments' policies by establishing residence in their most preferred region. Despite the degree of labor mobility, we show that the allocation of the impure public good and the interregional income redistribution policy are generally efficiently in a federation with decentralized leadership.

We examine the effectiveness of federal environmental policy designed to control transboundary pollution. Federal policy is shaped after the hierarchy of the system, and is controlled simultaneously by regional and central governments; each level controls one of two policy instruments: pollution abatement and tax. We obtain larger than socially desirable levels of transboundary pollution when the central government is the policy leader. Federal policy, however, may be socially efficient when regional governments are leaders whenever income transfers, chosen by the central government, provide incentives for efficient decentralized behavior. Our findings are useful to environmental policy design in the European Union.

We demonstrate that an interregional policy scheme featuring trading of carbon dioxide emissions, redistributive resource transfers and global participation, a scheme which we call "Ideal Kyoto Protocol," yields an efficient equilibrium allocation for a global economy. An altruistic international agency – say, the Global Environment Facility – should operate the resource transfer mechanism. In addition, regional governments should be able to make independent policy commitments regarding how to control regional emissions of carbon dioxide in anticipation of the redistributive transfers. Our efficiency result suggests that the USA should be "bribed" to reverse its decision of not participating in the Kyoto Protocol.