Working Paper: NBER ID: w30321
Authors: Matthew Kotchen
Abstract: This paper asserts that reporting of the ratio of welfare gains to tax revenue should be standard protocol in economic analyses of externality correcting taxes. That this comparison might matter is somewhat of a “blind spot” in most economic analyses, for it plays virtually no role when economists recommend taxes to internalize externalities. A simple model illustrates how the ratio of welfare gains to tax revenue plays a central role in a political economy and efficiency framing of Pigouvian type taxes. The analysis also shows intuitive results about how the ratio is increasing in the marginal external costs and the equilibrium elasticity to a tax. The second part of the paper illustrates the wide range of potential results with application of carbon taxes to different fuels in the United States. For example, assuming a social cost of carbon (SCC) and a carbon tax equal to $50 per tonne, the central estimates imply ratios of 12.1 for coal, 0.36 for natural gas, and very close to zero for diesel and gasoline. When all four fuels are combined, the ratios indicate a more proportional balance between welfare gains and tax revenue, with overall estimates ranging between 0.7 and 2.8. The paper concludes with a general appeal for economists to pay more attention to the relative magnitudes of efficiency gains and tax revenue when analyzing and advocating for externality correcting taxes.
Keywords: Pigouvian taxes; externalities; carbon taxes; welfare gains; tax revenue
JEL Codes: H21; H23; Q38; Q4
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| ratio of welfare gains to tax revenue (H21) | political feasibility (D72) |
| ratio of welfare gains to tax revenue (H21) | efficiency in tax implementation (H21) |
| marginal external costs (D62) | ratio of welfare gains to tax revenue (H21) |
| market responsiveness to tax implementation (H32) | ratio of welfare gains to tax revenue (H21) |
| carbon tax implementation (H23) | ratio of welfare gains to tax revenue (H21) |
| coal carbon tax (Q58) | welfare gains relative to tax revenue (D69) |
| natural gas carbon tax (Q58) | welfare gains relative to tax revenue (D69) |
| diesel and gasoline carbon tax (H23) | welfare gains relative to tax revenue (D69) |
| all fuels combined carbon tax (Q35) | overall ratio of welfare gains to tax revenue (H21) |
| transparency regarding ratios (Y10) | political feasibility of Pigouvian taxes (H23) |