Energy policy with externalities and internalities

Hunt Allcott, Sendhil Mullainathan and Dmitry Taubinsky

Journal of Public Economics, 2014, vol. 112, issue C, 72-88

Abstract: We analyze optimal policy when consumers of energy-using durables undervalue energy costs relative to their private optima. First, there is an Internality Dividend from Externality Taxes: aside from reducing externalities, they also offset distortions from underinvestment in energy efficiency. Discrete choice simulations of the auto market suggest that the Internality Dividend could more than double the social welfare gains from a carbon tax at marginal damages. Second, we develop the Internality Targeting Principle: the optimal combination of multiple instruments depends on the average internality of the consumers marginal to each instrument. Because consumers who undervalue energy costs are mechanically less responsive to energy taxes, the optimal policy will tend to involve an energy tax below marginal damages coupled with a larger subsidy for energy efficient products. Third, although the exact optimal policy depends on joint distributions of unobservables which would be difficult to estimate, we develop formulas to closely approximate optimal policy and welfare effects based on reduced form “sufficient statistics” that can be estimated by using field experiments or quasi-experimental variation in product prices and energy costs.

Keywords: Energy efficiency; Energy-using durables; Implied discount rates; Inattention; Internality taxes; Optimal taxation; Present bias; Pigouvian taxes (search for similar items in EconPapers)
JEL-codes: D03 D04 D11 H21 H22 H23 L51 L62 L97 Q41 Q48 (search for similar items in EconPapers)
Date: 2014
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (137)

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Working Paper: Energy Policy with Externalities and Internalities (2012)
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Persistent link: https://EconPapers.repec.org/RePEc:eee:pubeco:v:112:y:2014:i:c:p:72-88

DOI: 10.1016/j.jpubeco.2014.01.004

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