When environmental and redistribution concerns collide: The case of electricity pricing

Abstract

Abstract Countries worldwide face major income inequality and environmental challenges. However, recent social upheavals reveal the conflict of interests induced by policies designed to address these concerns. One example relates to residential electricity, where volumetric grid charges and taxes may impede the affordability of electricity. We develop and calibrate a model that captures the social planner's trade-off between inequality aversion and environmental concerns. We employ panel data on 105,000 households in the Swiss Canton of Bern from 2008 to 2013, including electricity consumption, household income and tax payment characteristics. The results show that with inequity aversion and no negative environmental externalities electricity consumption should be subsidised by income tax revenue. With negative environmental externalities, or asymmetric information between the government and the utility, end-user electricity prices are shifted upwards. For high degrees of inequality aversion, the optimal electricity end-user price is below the marginal cost, even in the presence of negative environmental externalities.