Environmental Tax Reform and Government Expenditure

Abstract

In a simple model of production with an imported polluting resource and involuntary unemployment we consider the effects of energy taxes, holding the real wage constant, under differing levels of government expenditure and externalities. Simulations reveal conflict between the goals of net welfare, employment and profitability over much of the relevant parameter range, thus extending the usual discussion of multiple dividends. However, potential net welfare and employment gains are substantial for plausible parameters. The optimal energy tax declines as government expenditure rises and is less than the Pigovian tax for plausible externalities.