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Economic Determinants

The economic determinants we include in E, follow quite directly from equation (2.22) relating differences in emissions across countries (or differences within a country over time) to differences in country characteristics and trade frictions. We reproduce (2.22) below:
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In our empirical work we measure the scale of activity at any site, S, by constructing an intensive measure of economic activity per unit area. This intensive measure is GDP per square kilometer. Lacking detailed data on “Gross City Product”, we construct GDP per square kilometer for each city and each year by multiplying city population density with country GDP per person. This measure has two key benefits. First, it is measured in intensive form, as is our dependent variable.

To explain concentrations of pollution we need a measure of scale reflecting the concentration of economic activity within the same geographical area. Other possible proxies for scale fail this test: GDP per person makes no allowance for cities of different size; GDP scaled by city population makes no allowance for cities of different density. Only GDP per square kilometer captures differences in the flow of economic activity per unit area across cities that vary in population size and density.

A second benefit of our measure is that it allows for heterogeneity across cities within the same country in the scale of economic activity. This within-country heterogeneity is key to disentangling the technique and scale effects.

The composition effect is captured by capital abundance, к, as measured by a nation’s capital to labor ratio. We implicitly assume that this ratio is the same for all cities within a country. In our estimations we will include both a country’s capital to labor ratio and its square. This non-linearity is appealing because theory suggests capital accumulation should have a diminishing effect at the margin.