ASYMMETRY IN THE ENVIRONMENTAL POLLUTION, ECONOMIC DEVELOPMENT AND PETROL PRICE RELATIONSHIP: MRS-VAR AND NONLINEAR CAUSALITY ANALYSES

Abstract

The paper aims at assessing the nonlinear relations among the carbon dioxide (CO2) emissions, petrol prices and the level of economic prosperity in USA and UK for the 1861-2012 and 1871-2012 periods. By covering one of the largest samples, the paper achieves its novelty through the utilization of the Markov-switching based VAR and Granger causality methodologies to provide important insights regarding the shape of the Environmental Kuznets Curve. The selection of UK and USA is not only based on the availability of the largest data, but also on selecting countries that have gone through the stages of economic development in the sense of Rostow. In addition, the impact of the petrol prices is introduced to the environment-income relation. With this respect, the paper achieves a link between the literature of the regime-switching based business cycles and the environmental economics. The empirical findings of the paper show that: (i) the asymmetric impacts of the economic growth rates on emissions cannot be rejected both for the expansionary and for the recessionary periods in both countries in addition to the nonlinear effects of petrol prices, (ii) the nonlinear Granger causality results reveal bidirectional effects in both regimes which hold especially for the USA compared to the UK, (iii) the efficiency of the MRS-VAR models in capturing historical recession dates is confirmed since they coincide with major success to those reported by NBER and ECRI, (iv) the difference in persistence and durations of regimes should be taken into consideration. Within a policy perspective, the practical implications of the paper suggest further improvement in policies directed towards the environmental impact of economic growth in addition to petrol prices in different phases of the business cycles. The MRS-VAR findings also reveal practical implications regarding the shape of EKC: considering the size and the significance of the parameters in different regimes, the inverted U shape does not hold for the USA since the positive effects on emissions dominate in both regimes. In the UK, the negative effect is dominant only in regime 2. The paper also discusses the need of caution due to the shift of production from the developed to the far east - creating a derived demand of world's environmental degradation.