Multifunctionality and Optimal Environmental Policies for Agriculture in an Open Economy

This paper develops a general equilibrium framework to determine the optimal set of internalizing policies under multifunctionality and relates these policies to trade. When agriculture generates both amenity benefits and pollution, a welfare maximum can be achieved through a combination of a subsidy on agricultural land and a tax on polluting inputs, but the levels of these policies must be selected jointly. To illustrate this interaction, a set of stylized policy simulations of the aggregate U.S. agricultural sector is performed. The estimated optimal subsidy on farmland exceeds its social amenity value by approximately 50%. If opened to international trade, small economies have no incentive to distort environmental policies away from their internalizing levels, but large economies will manipulate domestic policies in order to exploit terms of trade. As a large agricultural exporter, the U.S. could manipulate its environmental policy set to increase world agricultural prices by an estimated 9% over a base case of no environmental policy.