Reducing Leakage with Supply-Side Elasticities as Determinants of Optimal Carbon Taxation∗

31 Pages Posted: 19 Mar 2022

See all articles by Cecilie Marie Løchte Jørgensen

Cecilie Marie Løchte Jørgensen

Aarhus University - Department of Economics and Business Economics

Simon Christiansen

affiliation not provided to SSRN

Abstract

Consider an open economy with two polluting production inputs whose policymakers decide to implement a unilateral carbon tax on the use of the inputs. The one-sided policy introduces a leakage externality whose magnitude depends on the price responses of the polluting inputs. We show that the optimal tax on a polluting input decreases when the relative supply-price elasticity increases. The intuition is that inputs with low supplyprice elasticities experience larger price decreases in response to taxes, which incentivises the producers in the non-taxing country to use more of them. The policymaker avoids this by taxing the elastic inputs the most.

Keywords: Non-cooperative climate policy, Leakage, Pigouvian taxes, Second-best taxes, Differentiated carbon taxes, General equilibrium

Suggested Citation

Løchte Jørgensen, Cecilie Marie and Christiansen, Simon, Reducing Leakage with Supply-Side Elasticities as Determinants of Optimal Carbon Taxation∗. Available at SSRN: https://ssrn.com/abstract=4061465 or http://dx.doi.org/10.2139/ssrn.4061465

Cecilie Marie Løchte Jørgensen (Contact Author)

Aarhus University - Department of Economics and Business Economics ( email )

Fuglesangs Allé 4
Aarhus V, 8210
Denmark

Simon Christiansen

affiliation not provided to SSRN ( email )

No Address Available

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