The Use of Regression Statistics to Analyze Imperfect Pricing Policies

Mark R. Jacobsen, Christopher R. Knittel, James M. Sallee and Arthur A. van Benthem

Journal of Political Economy, 2020, vol. 128, issue 5, 1826 - 1876

Abstract: Corrective taxes can solve many market failures, but actual policies frequently deviate from the theoretical ideal because of administrative or political constraints. We present a method to quantify the efficiency costs of constraints on externality-correcting policies or, more generally, the costs of imperfect pricing, using simple regression statistics. Under certain conditions, the R2 and the sum of squared residuals from a regression of true externalities on policy variables measure relative welfare gains from policies. We illustrate via four empirical applications: random mismeasurement of externalities, imperfect electricity pricing, heterogeneity in the longevity of energy-consuming durable goods, and imperfect spatial policy differentiation.

Date: 2020
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