Working Paper: NBER ID: w12339
Authors: Louis Kaplow
Abstract: A substantial literature examines second-best environmental policy, focusing particularly on how the Pigouvian directive that marginal taxes should equal marginal external harms needs to be modified in light of the preexisting distortion due to labor income taxation. Additional literature is motivated by the possibility that distributive concerns should amend the internalization prescription. It is demonstrated, however, that simple first-best rules " unmodified for labor supply distortion or distribution " are correct in a natural, basic formulation of the problem. Specifically, setting all commodity taxes equal to marginal harms (and subsidies equal to marginal benefits) can generate a Pareto improvement. Likewise, a marginal reform in the direction of the first-best can yield a Pareto improvement. For other reforms, a simple efficiency test characterizing when a Pareto improvement is possible is offered. Qualifications and explanations for the substantial departure from results in previous work are also elaborated.
Keywords: No keywords provided
JEL Codes: D61; D62; D63; H21; H23; K32
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| commodity taxes and subsidies (H25) | Pareto improvement (D61) |
| marginal changes in commodity taxes and subsidies (H29) | Pareto improvement (D61) |
| tax adjustments (H20) | improved welfare outcomes (I38) |
| specific commodity tax reforms (H25) | Pareto improvements (D61) |