A Tax on Output of the Polluting Industry is Not a Tax on Pollution: the Importance of Hitting the Target

45 Pages Posted: 1 Mar 2000 Last revised: 23 Oct 2013

See all articles by Don Fullerton

Don Fullerton

University of Illinois at Urbana-Champaign - Department of Finance; National Bureau of Economic Research (NBER); CESifo (Center for Economic Studies and Ifo Institute)

Inkee Hong

University of Texas at Austin - Department of Economics

Gilbert E. Metcalf

Tufts University - Department of Economics; National Bureau of Economic Research (NBER)

Date Written: July 1999

Abstract

We explore the effects of environmental taxes that imprecisely target pollution. A review of actual policies indicates few (if any) examples of a true tax on pollution. More typically, environmental taxes target an input or output that is correlated with pollution. We construct a simple analytical general equilibrium model to calculate the optimum tax rate on the input of the polluting industry, in terms of key behavioral parameters, and we compare this imprecisely-targeted tax to an ideal tax on pollution. Finally, we consider incremental tax reforms such as a change in either tax from some pre-existing level. Using a utility-based money-metric measure of welfare, we examine the losses that arise from not taxing pollution directly. With no existing tax, under our plausible parameters, the welfare gain from an output tax is less that half the gain from an emissions tax.

Suggested Citation

Fullerton, Don and Hong, Inkee and Metcalf, Gilbert E., A Tax on Output of the Polluting Industry is Not a Tax on Pollution: the Importance of Hitting the Target (July 1999). NBER Working Paper No. w7259. Available at SSRN: https://ssrn.com/abstract=202432

Don Fullerton (Contact Author)

University of Illinois at Urbana-Champaign - Department of Finance ( email )

1206 South Sixth Street
Champaign, IL 61820
United States
(217) 244-3621 (Phone)

National Bureau of Economic Research (NBER)

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Cambridge, MA 02138
United States

CESifo (Center for Economic Studies and Ifo Institute)

Poschinger Str. 5
Munich, DE-81679
Germany

Inkee Hong

University of Texas at Austin - Department of Economics ( email )

Austin, TX 78712
United States
512-471-3211 (Phone)

Gilbert E. Metcalf

Tufts University - Department of Economics ( email )

Medford, MA 02155
United States
617-627-3685 (Phone)
617-627-3917 (Fax)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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