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Second-Best Pollution Taxes: An Analytical Framework and Some New Results

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  • Fuest, Clemens
  • Huber, Bernd

Abstract

This paper compares the second-best optimal tax on polluting consumption goods with the Pigovian tax, which would internalize marginal environmental damage at a second-best optimum. It is shown that the relationship between the optimal tax on polluting consumption and the Pigovian tax is determined by the substitutability between labour and polluting consumption or clean and polluting consumption, depending on whether a wage tax system or a commodity tax system is being considered. The key factor determining the relationship between the two taxes is gross substitutability between the two taxed goods. As long as there is gross substitutability, the optimal dirt tax exceeds the Pigovian tax. The opposite can occur if and only if the two goods are gross complements. Copyright 1999 by Blackwell Publishing Ltd and the Board of Trustees of the Bulletin of Economic Research

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  • Fuest, Clemens & Huber, Bernd, 1999. "Second-Best Pollution Taxes: An Analytical Framework and Some New Results," Bulletin of Economic Research, Wiley Blackwell, vol. 51(1), pages 31-38, January.
    • Handle: RePEc:bla:buecrs:v:51:y:1999:i:1:p:31-38
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    Cited by:

    1. Pitafi, Basharat A.K. & Roumasset, James A., 2002. "Optimal Green Taxation with Both Emission and Commodity Taxes," 2002 Annual meeting, July 28-31, Long Beach, CA 19693, American Agricultural Economics Association (New Name 2008: Agricultural and Applied Economics Association).
    2. A. Bovenberg, 1999. "Green Tax Reforms and the Double Dividend: an Updated Reader's Guide," International Tax and Public Finance, Springer;International Institute of Public Finance, vol. 6(3), pages 421-443, August.

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