Working Paper: NBER ID: w4897
Authors: A. Lans Bovenberg; Lawrence H. Goulder
Abstract: This paper examines the optimal setting of environmental taxes in economies where other, distortionary taxes are present. We employ analytical and numerical models to explore the degree to which, in a second best economy, optimal environmental tax rates differ from the rates implied by the Pigovian principle (according to which the optimal tax rate equals the marginal environmental damages). Both models indicate, contrary to what several analysts have suggested, that the optimal tax rate on emissions of a given pollutant is generally less than the rate supported by the Pigovian principle. Moreover, the optimal rate is lower the larger are the distortions posed by ordinary taxes. Numerical results indicate that previous studies may have seriously overstated the size of the optimal carbon tax by disregarding pre-existing taxes.
Keywords: environmental taxation; general equilibrium; Pigovian tax; distortionary taxes
JEL Codes: H23; Q28
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Optimal environmental tax rate (H21) | Less than Pigovian tax rate (H23) |
| Presence of other distortionary taxes (H31) | Optimal environmental tax rate (H21) |
| Marginal cost of public funds (MCPF) (H89) | Optimal environmental tax rate (H21) |
| Increase in MCPF (E64) | Decrease in optimal environmental tax rate (H23) |
| Scarcity of public revenues (H69) | Shift towards non-environmental taxes (H23) |