GTAP Resources: Resource Display
| GTAP Resource #1533 |
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"First, Do No Harm" by Ballard, Charles and John Goddeeris Abstract In the simplest model of an environmental externality, the social optimum can be achieved by imposing a Pigouvian tax, the level of which is determined by the marginal environmental damage at the optimum. However, for many environmental externalities, there is considerable uncertainty about the amount of environmental damage. Consequently, there is uncertainty about the precise location of the optimum. This uncertainty was one of the main driving forces behind the literature on the "double dividend". If it could be shown that an environmentally motivated change in the tax system would improve efficiency, even in the absence of any improvement to the environment, then the case for corrective taxes or licenses is strengthened. However, a considerable literature associated with Bovenberg, Parry, and others has shown that a double dividend cannot be guaranteed. With or without a double dividend, there is still uncertainty about the magnitude of the environmental damages, and therefore uncertainty about the benefits from programs to alleviate environmental damages. If we underestimate the environmental damages, we will choose a corrective tax or license that is inefficiently small. However, if we overestimate the environmental damages, we will choose a corrective tax or license that is inefficiently large. As the corrective tax is increased farther and farther beyond its optimal level, welfare will decline. Eventually, welfare will fall to a level that is lower than that which would have occurred if no corrective scheme had been adopted in the first place. Relatively little research has been devoted to understanding the nature of the functional relationship between the level of corrective tax and the level of welfare. The purpose of this paper is to investigate this relationship further. The paper will build use a modified version of a model by Ballard (Journal of Public Economics, 1990). This is an extremely simple CGE model, in which there is one "dirty good" and one "clean good". This setting is very similar to the analytical model of Bovenberg and de Mooij (American Economic Review, 1994). With this small-scale CGE model, it is possible to verify the results of Bovenberg and deMooij: Under certain assumptions (crucial among which is homotheticity of the utility function), there is no double dividend. However, it can be demonstrated that non-homothetic preferences can lead to a double dividend. Unfortunately, however, this does not change the fact that sufficiently large increases in the corrective tax will lead to declining welfare. The precise shape of the relationship depends on a variety of parameters. The paper will provide substantial sensitivity analysis. |
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Last Modified: 9/15/2023 2:05:45 PM
