Evaluating policy interventions with general equilibrium externalities

Abstract

We report on the results of analytical and numerical models that describe the effects of non-separable externalities (or public goods) on public policies with important general equilibrium consequences. In the numerical exercise, we calibrate a general equilibrium model with non-separable air quality benefits in order to measure the excess burden and total net benefits of transportation and energy taxes in the 1995 U.S. economy. The change in the physical level and the economic value in air quality associated with a given policy is a function of the substitution patterns between air quality and market goods that we assume. The size of the deadweight loss due to pre-existing distortions such as a tax on labor income is substantially affected by these substitution patterns.