How relative prices affect fuel use patterns in manufacturing : plant - level evidence from Chile

Some economists have urged reliance on fuel taxes and other fiscal incentives to reduce air pollution in semi-industrialized countries. They argue that policies that act on relative prices are easier to enforce than those based on emission monitoring, create less misallocation of resources, and are relatively free of the rent-seeking and corruption that accompany regulations administered at the plant level. To be effective, however, fuel specific taxes and subsidies must inspire manufacturers to significantly adjust their input use as relative prices change. Moreover, these policies must not create politically unacceptable income redistribution. The authors shed light on both issues by analyzing detailed panel data on Chilean manufacturing plants. Overall, their estimates suggest that there is substantial scope for fuel taxes to encourage fuel substitution, but that the response will be very uneven - not only across sectors but across producers of different sizes. Although others may be correct in arguing that fiscal incentives are easier to implement that are direct emission controls, the costs of adjustment are likely to be concentrated fairly narrowly for some fuels. The authors found bakeries, for example, to be very responsive to changes in the relative prices of alternative fuels. By contrast, energy demand in metal products plants appears to be very insensitive to relative prices, no matterwhat estimates are used. Meatpackers fall somewhere between the two - with little price responsiveness in electricity demand, but more in the demand for energy from other sources, especially if coherency-constrained figures are used. It seems that the effects of fuel taxes would depend in significant measure on the sectoral composition varies and some sectors have little flexibility.