Question

In a newly published article in the scientific journal “International Economic Review”, some authors study how carbon taxation could help reducing the climate change problem. They find that:

Carbon taxation is mostly studied in social planner or infinitely‐lived‐agent models, which obscure carbon taxation's potential to produce a generational win win. This paper's large‐scale, dynamic 55‐period, overlapping generations model calculates the carbon‐tax policy delivering the highest uniform welfare gain to all current and future generations. Our model features coal, oil, and gas, increasing extraction costs, clean energy, technical and demographic change, and Nordhaus' (2017) carbon/temperature/damage functions. Assuming high‐end carbon damages, the optimal carbon tax is $70, rising annually at 1.5 percent. This policy raises all generations' welfare by almost 5 percent. However, doing so requires major intergenerational redistribution.

d.How is the welfare measurement related to the concept of Pareto efficiency?

Answer 1

A two-sector OLG model illuminates previously unexamined in-tergenerational effects of a tax that protects an environmental stock. A traded asset capitalizes the economic returns to future tax-induced environmental improvements, benefiting the current asset owners, the old generation. Absent a transfer, the tax harms the young genera-tion by decreasing their real wage. Future generations benefit from the tax-induced improvement in environmental stock. The principal intergenerational conflict arising from public policy is between gen-erations alive at the time society imposes the policy, not between generations alive at different times. A Pareto-improving policy can be implemented under various political economy setting

Many areas of the natural and social sciences involve complex systems that link together multiple physical or intellectual sectors. This is particularly true for environmental problems, which are intrinsically ones having strong roots in the natural sciences and require social and policy sciences to solve in an effective and efficient manner. A good example, which will be the subject of this survey, is climate change science and policy, which involve a wide variety of sciences such as atmospheric chemistry and climate sciences, ecology, economics, political science, game theory, and international law. As understanding progresses across the different fronts, it is increasingly necessary to link together the different areas to develop effective understanding and efficient policies. In this role, integrated assessment analysis and models play a key role. Integrated assessment models (IAMs) can be defined as approaches that integrate knowledge from two or more domains into a single framework. These are sometimes theoretical but are increasingly computerized dynamic models of varying levels of complexity. The present survey provides a roadmap to developments in IAMs for climate change over the last quarter century. It is constructed in the following sequence. We begin in this section with a review of the emerging problem of climate change. This is necessary to lay the background and motivation for why so many social and natural scientists are spending so much of their time on this issue.

There are many combinations of consumer utility, production mixes, and factor input combinations consistent with efficiency. In fact, there are an infinity of consumption and production equilibria that yield Pareto optimal results. There are as many optima as there are points on the aggregate production–possibility frontier. Hence, Pareto efficiency is a necessary, but not a sufficient condition for social welfare. Each Pareto optimum corresponds to a different income distribution in the economy. Some may involve great inequalities of income. So how do we decide which Pareto optimum is most desirable? This decision is made, either tacitly or overtly, when we specify the social welfare function. This function embodies value judgements about interpersonal utility. The social welfare function shows the relative importance of the individuals that comprise society.

A utilitarian welfare function sums the utility of each individual in order to obtain society's overall welfare. All people are treated the same, regardless of their initial level of utility. One extra unit of utility for a starving person is not seen to be of any greater value than an extra unit of utility for a millionaire. At the other extreme is the Max-Min, or Rawlsian utility function. According to the Max-Min criterion, welfare is maximized when the utility of those society members that have the least is the greatest. No economic activity will increase social welfare unless it improves the position of the society member that is the worst off. Most economists specify social welfare functions that are intermediate between these two extremes.

The social welfare function is typically translated into social indifference curves so that they can be used in the same graphic space as the other functions that they interact with. A utilitarian social indifference curve is linear and downward sloping to the right. The Max-Min social indifference curve takes the shape of two straight lines joined so as they form a 90-degree angle. A social indifference curve drawn from an intermediate social welfare function is a curve that slopes downward to the right.