“Indeterminacy and chaos in a

Ramsey model with

environmental externalities”

Delio Panaro, University of Pisa

Mauro Sodini, University of Pisa
Presentation plan:
 Aim of the work:

To analyse how an agent’s allocation process,

determined in a rational way, but influenced
by environmental externalities, may be an
engine of non-linear dynamics in a
deterministic framework;

To investigate the effect of a pollution tax

on the aggregate well-being;

To investigate how self-protecting

expenditures can lead to environmental
degradation.
 Bibliography,
traditional literature on this subject:

Coury T. and Wen Y., “Global indeterminacy in locally determinate RBC

models” - Working Paper of Research Division, Federal Reserve Bank of St.
Louis (2007).

Day R., “Irregular growth cycles” – The American economic review (1982)

Guo J-T. and Lansing K., “Fiscal policy, increasing returns and
endogenous fluctuations” - Working Paper in Applied Economic Theory,
Federal Reserve Bank of San Francisco number 99-08 (2001).

Nishimura K. and Venditti A., “Dynamical systems arising from infinite

time horizon optimization models” – Journal of difference equations and
applications (2000).

Ono T., “Is habitual consumption harmful to the environment?” Economics

bulletin (2002).

Seegmuller T. and Verchere A., “Pollution as a source of endogenous

fluctuations and periodic welfare inequality in OLG economies” – Economics
Letters Volume 84, Issue 3, September (2004), 363-369.
 Bibliography,
other related works:

Antoci A., Bartolini S., “Negative externalities, defensive

expenditures and labour supply in an evolutionary context” -
Environment and Development Economics - Cambridge University Press
(2004);

Antoci A., Galeotti M., Russu P., “Consumption of private goods as

substitutes for environmental goods in an economic growth model” –
Nonlinear analysis: modelling and control (2005);

Antoci A., Sodini M., “Indeterminacy, bifurcations and chaos in an

overlapping generations model with negative environmental
externalities” – Chaos, solitons and fractals (2009);

Antoci A., Naimzada A., Sodini M., “Bifurcations and chaotic

attractors in an overlapping generations model with negative
environmental externalities” - Nonlinear dynamics in economics,
finance and social sciences: essays in honour of John Barkley Rosser
Jr. (2010).
 A brief overview on how the
models work:

The analysis is carried out in a discrete time dynamic

optimization framework, with an infinite time horizon
based on a modified version of the Ramsey model (see
Cugno and Montrucchio 1998). The agent's utility function
depends on consumption and leisure, the production
function is a Cobb-Douglas, and the environmental quality
is a decreasing function of capital used in the
production process for every time-unit.
We will develop a simple model without taxation that
will be our benchmark, then we will add a pollution tax
that will be used by the government to protect the
environment.
 Main features of the work:

We will consider:

the environment as a non tradable good (externality) that affects the
agent’s well-being. The environmental externality will affect the
agent’s well-being in two ways: through the production function (model
1) and through the leisure “quality” (model 2).

We will investigate:

the possible negative correlation between economic growth and
individuals' well-being;

the effect of the introduction of a pollution tax on the aggregate

well-being, focusing on how the pollution tax introduction causes the
appearance of complex dynamics; searching the critical value of the
tax rate that generates the complex behaviour and measuring the
overall well-being in the two cases.
 Model 1:
A simple one-dimensional model
with fixed labour supply:
The agent’s problem is to maximize a function defined
on an infinite time horizon:
 Model 1:
A simple one-dimensional model
with fixed labour supply:
Define:
consumption:

one-period agent’s utility:

production function:

environmental externality
law of motion:

To simplify the notation we

operate a change of variable,
setting:
 Model 1:
A simple one-dimensional model
with fixed labour supply:
Write the Bellman equation as:

Through substitution, we can write the reduced

form as:
 Model 1:
A simple one-dimensional model
with fixed labour supply:
To solve the functional problem we formulate a guess:

Substituting in the Bellman equation we obtain:

Differentiating with respect to y we obtain:

 Model 1:
A simple one-dimensional model
with fixed labour supply:

After some calculation we can obtain the policy

function defined as:

Substituting the environmental externality law of

motion we obtain the final map:

It’s possible to show that both the maps are, at most,

unimodals
 Model 1:
A simple one-dimensional model
with fixed labour supply:
At this point we can make a comparison between our model and the one
presented in Day R., (1982)*.
Our map: G-L map:

The most important difference between the two models is that in our
model the saving is an endogenous variable involved in the
optimization process while in the Day one the saving is considered an
exogenous variable and his rate (s) is given.

* To simplify the comparison we acted a little change of notation in the Day

model
 Model 1:
A simple one-dimensional model
with fixed labour supply:
Setting parameters (benchmark):

our model
Day model
 Model 1:
A simple one-dimensional model
with fixed labour supply:
 Model 1:
A simple one-dimensional model
with fixed labour supply:
We can evaluate how our model reacts to a change in the parameters:

ß from 0.3 to 0.8

 Model 1:
A simple one-dimensional model
with fixed labour supply:

Critical value for ß ≈ 0.65

 Model 1:
A simple one-dimensional model
with fixed labour supply:
We can evaluate how the two models react changing the parameters:

α from 0.35 to 0.85

 Model 1:
A simple one-dimensional model
with fixed labour supply:

Critical value for α ≈ 0.65

 Model 1:
A simple one-dimensional model
with fixed labour supply:
We can evaluate how the two models react changing the parameters:

gamma from 0.35 to 0.85

 Model 1:
A simple one-dimensional model
with fixed labour supply:

Critical value for gamma ≈ 0.41

 Model 2:
A one-dimensional model with
endogenous labour supply:
The agent’s problem:
 Model 2:
A one-dimensional model with
endogenous labour supply:

Define:
consumption:

one-period agent’s utility:

production function:

environmental externality law of motion:

The amount of labour supplied in each

period is the same in both models and
it is given by:
 Model 2:
A one-dimensional model with
endogenous labour supply:
The policy function obtained is:

Otherwise, if we eliminate the Government

action and the taxation, we obtain:
 Model 2:
A one-dimensional model with
endogenous labour supply:

Setting parameters (benchmark):

 Model 2:
Comparing the two maps:
without taxation: with taxation:
 Model 2:
Comparing the two maps:

Iterated map Iterated map

without taxation: with taxation:
 Model 2:
A one-dimensional model with
endogenous labour supply:
We can evaluate how the two models react changing the parameters:

α from 0.3 to 0.7

 Model 2:
A one-dimensional model with
endogenous labour supply:

Critical value for α ≈ 0.36

 Model 2:
A one-dimensional model with
endogenous labour supply:

ß from 0.3 to 0.7

 Model 2:
A one-dimensional model with
endogenous labour supply:

Critical value for ß ≈ 0.36

 Model 2:
A one-dimensional model with
endogenous labour supply:

zeta from 0.2 to 0.6

 Model 2:
A one-dimensional model with
endogenous labour supply:

zeta from 0 to 0.7

 Model 2:
A one-dimensional model with
endogenous labour supply:

tau from 0.3 to 0.7

 Model 2:
A one-dimensional model with
endogenous labour supply:

Critical value for tau ≈ 0.6

 Model 2:
A one-dimensional model with
endogenous labour supply:

omega from 10 to 18
 Model 2:
A one-dimensional model with
endogenous labour supply:

Critical value for omega ≈ 10.4

 Model 2:
A one-dimensional model with endogenous labour supply:

Evolution of the agent’s utility in the benchmark model

with taxation
 Model 2:
A one-dimensional model with endogenous labour supply:

Evolution of the agent’s consumption in the benchmark

model with taxation
 Model 2:
A one-dimensional model with endogenous labour supply:

Evolution of the environment in the benchmark model with

taxation
 Model 2:
A one-dimensional model with
endogenous labour supply:

Evolution of the hours of work supplied in the benchmark

model with taxation
 Model 2:
A one-dimensional model with endogenous labour supply:

A comparison between the utility’s evolution in the two

models:

with taxation without taxation

 Model 2:
A one-dimensional model with endogenous labour supply:

A comparison between the utility’s evolution in the two

models:

The sum of agent’s utility after 100 iterations in the

benchmark model with taxation is:

4632.914530729325

that is greater than

the sum of agent’s utility in the benchmark model without
taxation:

2961.8546560959585
Conclusions