Working Paper: NBER ID: w17348
Authors: Mikhail Golosov; John Hassler; Per Krusell; Aleh Tsyvinski
Abstract: We analyze a dynamic stochastic general-equilibrium (DSGE) model with an externality through climate change from using fossil energy. A central result of our paper is an analytical derivation of a simple formula for the marginal externality damage of emissions. This formula, which holds under quite plausible assumptions, reveals that the damage is proportional to current GDP, with the proportion depending only on three factors: (i) discounting, (ii) the expected damage elasticity (how many percent of the output flow is lost from an extra unit of carbon in the atmosphere), and (iii) the structure of carbon depreciation in the atmosphere. Very importantly, future values of output, consumption, and the atmospheric CO2 concentration, as well as the paths of technology and population, and so on, all disappear from the formula. The optimal tax, using a standard Pigou argument, is then equal to this marginal externality. The simplicity of the formula allows the optimal tax to be easily parameterized and computed. Based on parameter estimates that rely on updated natural-science studies, we find that the optimal tax should be a bit higher than the median, or most well-known, estimates in the literature. We also show how the optimal taxes depend on the expectations and the possible resolution of the uncertainty regarding future damages. Finally, we compute the optimal and market paths for the use of energy and the corresponding climate change.
Keywords: fossil fuel; optimal tax; climate change; general equilibrium; dynamic stochastic model
JEL Codes: E13; E17; E6; H23; Q28; Q4; Q5
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| marginal externality damage of carbon dioxide emissions (D62) | current GDP (E20) |
| higher expected damages from emissions (K13) | higher optimal tax rate on fossil fuels (H21) |
| marginal externality damage of carbon dioxide emissions (D62) | optimal tax should be set equal to marginal externality cost of emissions (H23) |
| optimal tax rates derived from analysis (H21) | significantly higher than those proposed in previous literature (C12) |