Industry Compensation and the Costs of Alternative Environmental Policy Instruments

56 Pages Posted: 24 Aug 2007 Last revised: 6 Jun 2021

See all articles by A. Lans Bovenberg

A. Lans Bovenberg

Tilburg University - Center for Economic Research (CentER); Centre for Economic Policy Research (CEPR); CESifo (Center for Economic Studies and Ifo Institute)

Lawrence H. Goulder

Stanford University - Department of Economics; National Bureau of Economic Research (NBER); Resources for the Future

Mark R. Jacobsen

University of California, San Diego (UCSD) - Department of Economics; Stanford University

Date Written: August 2007

Abstract

This paper explores how the costs of meeting given aggregate targets for pollution emissions change with the imposition of the requirement that key pollution-related industries be compensated for potential losses of profit from the pollution regulation. Using analytically and numerically solved equilibrium models, we compare the incidence and economy-wide costs of emissions taxes, fuel (intermediate input) taxes, performance standards and mandated technologies in the absence and presence of this compensation requirement. Compensation is provided either through lump-sum industry tax credits or industry-specific cuts in capital tax rates. We decompose the added costs from the compensation requirement into (1) an increase in "intrinsic abatement cost," reflecting a lowered efficiency of pollution abatement, and (2) a "lump-sum compensation cost" that captures the efficiency costs of financing the compensation. The compensation requirement affects these components differently and thus can alter the cost-rankings of policies. When compensation is provided through tax credits, the lump-sum compensation cost is higher under the emissions tax than under performance standards and mandated technologies -- a reflection of the emission tax's higher compensation requirements. If in this setting the required pollution reduction is modest, imposing the compensation requirement causes the emissions tax to become more costly than command and control policies. In contrast, if required abatement is extensive, the emissions tax emerges as the most cost-effective policy because its relatively low intrinsic abatement costs assume greater importance.

Suggested Citation

Bovenberg, A. Lans and Goulder, Lawrence H. and Jacobsen, Mark R., Industry Compensation and the Costs of Alternative Environmental Policy Instruments (August 2007). NBER Working Paper No. w13331, Available at SSRN: https://ssrn.com/abstract=1009529

A. Lans Bovenberg

Tilburg University - Center for Economic Research (CentER) ( email )

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Centre for Economic Policy Research (CEPR)

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Lawrence H. Goulder (Contact Author)

Stanford University - Department of Economics ( email )

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National Bureau of Economic Research (NBER)

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Resources for the Future

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Mark R. Jacobsen

University of California, San Diego (UCSD) - Department of Economics ( email )

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Stanford University ( email )

Stanford, CA 94305
United States

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