Emission Standards and Growth

Minna Selene Svane

No 98-22, EPRU Working Paper Series from Economic Policy Research Unit (EPRU), University of Copenhagen. Department of Economics

Abstract: This paper investigates the effects of an emission standard and taxation within a two sector endogenous growth model with pollution. There are two regimes characterized by a non-binding and a binding emission standard, respectively. The main result is that sustained growth is possible, when environmental concerns are taken into account. Furthermore, the outcome of a decentralized economy is inefficient. A capital income tax or a pollution tax is therefore required to reach a first best outcome. If the capital income tax is unavailable as an instrument, then the optimal pollution tax equals the optimal marginal damage of pollution. However, the optimal pollution tax may be below its Pigouvian level, when the optimal capital income tax is high, since a tax on capital income works as an indirect tax on pollution.

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