Question

As you know, for environmental taxes to be optimal, they should be based on the marginal external cost (marginal damages) at the optimum level of pollution. However, proposals for environmental taxes are often based on other criteria. The questions below prompt you to explore why these alternative proposals—-while perhaps having, at first, some intuitive appeal—are likely to be inefficient.

please answer each question clearly.

1. “If it costs $100/ton to sequester carbon (i.e. take carbon out of the atmosphere), carbon should be taxed at $100/ton” Is it true ? Why ?

2. “I wouldn’t mind paying a tax on pollution if the revenue went to taking care of the problem. They should base the tax on how much revenue is needed to clean up pollution.” Suppose that the nature of pollution damage was such that the marginal damages were due to the costs that society faced from cleaning up these damages.

(a) Show that, if marginal external costs are constant, the optimal tax will lead to tax revenue being exactly equal to the (equilibrium) costs of clean up. Hint : use a graph and compare areas

(b) Show that, if marginal external costs are rising, the optimal tax will lead to tax revenue being more than enough to clean up the damage. Hint : to make areas easy to compare, use linear curves.

(c) Show that, if marginal external costs are rising, a tax based on raising the revenue required to clean up damage will be too low.

3. “II wouldn’t mind paying a tax on pollution if the revenue went to taking care of the problem. They should use a tax on carbon emissions to subsidize tree planting to soak up carbon.” Under some proposed policies for aforestation, the carbon tax rate and the aforestation subsidy rate would be coordinated so that the revenues obtained from the carbon tax are just used up by the tree-planting subsidy. Does this policy make sense from the point of view of efficiency ?

Answer 1