My Bad.....

http://www.aguanomics.com/2013/01/pigouvian-taxes-do-not-produce.html

 

 

Comments

[Kathryndstewart]

The author of this post makes an interesting clarification, and since I'm still a less-than-savvy economics student, I wouldn't have noticed it had he not pointed it out.

The "tax policy" concept for adjusting behavior is too broad to fully capture what an environmental Pigouvian tax actually does. A Pigouvian tax adds a price onto of the "market price" to fully capture the cost in negative externalities, and instead of decreasing efficiency as a fiscal tax does, it increases efficiency because it captures the full cost.

The author of this post says that this style of tax doesn't actually create deadweight loss, and I think Professor Casey's post title addresses the fact that this is a common mix-up.

The win-win result that Pigouvian tax engenders means that the policy doesn't increase social costs, and instead creates a positive indirect cost, or a gain, if you will. Taxes diminish negative behavior by adding in the real cost of the negative externality, and earn more revenue at the same time. So to use the example from class, while may kids want more crayons at a lower price, the tax does not present an indirect cost, because it's keeping toxins out of their little bodies. The direct cost of the tax may still include identifying the externality, measuring it, monitoring it and enforcing it, but the indirect cost cannot be considered deadweight loss because this actually improves efficiency, and more importantly, it keeps toxins out of kids… just because they want to eat them doesn't mean they should.

So Pigouvian taxes are actually a tax we can all get on board with, because everyone likes a win-win, right? My hunch is that it's not that simple, but on ethical grounds, not purely economic grounds. I envision people protesting the government restricting crayon-eating, saying that if I want to eat crayons I should be able to. This argument omits the fact that crayon-eating is inefficient because it will lead to medical costs, possible decreases in productivity as our children grow up into sub-par workers with brain damage, etc. etc. (who knows what it really does...?)

This crayon example falls short because it doesn't create a negative externality for others, like second-hand smoke, water pollution, etc. might. In those cases, the fallacy of the deadweight loss is better illustrated, because taxing companies on water pollution might create a difference in how much pollution the company wants to create, but it captures a gain for society, and more money for the government which could be used for, hopefully, education, clean-up, and research about the problem.

[Julia Murray]

For me, this post not only clarified the nonexistence of deadweight loss in the instance of a Pigouvian tax; the author also pointed out that for a Pigouvian tax not to create a deadweight loss, the revenue from the tax must be used to help alleviate the negative effects of the externality. For example, he states that the revenue from cigarette taxes are used to pay for additional health costs caused by cigarettes. This helped to clarify the distinction from a fiscal tax, in which not only does the tax not help reduce a negative externality, but the revenue is used for other purposes not necessarily related to what is being taxed.

In the comment above, Kathryn refers to the crayon example from class, which is really an example of command and control, since a law exists in the U.S. that says toxins cannot be put into crayons. If the restriction on toxins in crayons was a Pigouvian tax instead of a law, then it might be more difficult to get such a tax passed. However, I think that the tax would be very effective for crayon manufacturers, since it is inexpensive to make crayons without toxins, so the marginal abatement cost is probably much less than the marginal damage.

[Katja Kleine]

I found this article very informative. This reminded me of the discussion we had in class about how Adam Smith's "invisible hand" concept has possibly been misrepresented. I think the Pigouvian tax is victim to this same problem. I don't think that many people question the difference between fiscal and behavioral taxes. And why should we if the models we see also make sense? I think the mindset I have always had was “so what” about deadweight loss if we are helping the environment and probably making significant strides towards protecting people and resources in the future. But, this is a little hard to argue. It will be nice to point out this distinction between fiscal and behavioral taxes as talk about implementing a gas or carbon tax hopefully become more prevalent.

Finally, I think it is interesting to note what country Professor Zetland is from: the Netherlands. I don’t know much about the Netherlands environmental policy, but given the amount that they use bikes for transportation and a brief Google search, it seems like the are more receptive to positive environmental policy than we may be here in the United States.

[Nick Bell]

I thought this article was interesting because it points out that many students cannot distinguish between a fiscal tax and a Pigouvian tax. Many students think that Pigouvian taxes result in dead-weight losses when really, as the author explains; they are a win-win situation. The reason I think most students think Pigouvian taxes result in dead-weight losses is because they do not realize that a market pre-Pigouvian tax is inefficient. Students do not understand that negative externalities such as pollution are not just bad for the community, but also inefficient.
I think the students are not alone in their misunderstanding of Pigouvian taxes. Many politicians and policy makers do not realize that taxing pollution does not only limit pollution, but it also fixes problems economically. If economists ruled the world, pollution would be treated as any other negative externality and would be taxed from the beginning.

[Emily Zankman]

As the other readers above, I was also enlightened by this distinction between fiscal and Pigouvian taxes. I think it is unfortunate that the general public tends to group all things with the word “tax” in it into one category: personally undesirable.

People fail to see the fact that Pigouvian taxes not only “generate revenue as they improve efficiency” but also amplify the standard of living current and future generations. Perhaps it is time to change the phrase “Pigouvian tax” to “Pigouvian benefit”.

[Sommer Ireland]

If one asked the average American the difference between a Pigouvian Tax and a fiscal tax, they wouldn't be able to tell you the difference. The general response you would get would be, "Either way, they're costing more money." A majority of people view taxes as the way that the government earns revenue. Very few, I would say, view any as ways to correct social behaviors. They're purpose is to reflect the true cost of the good as seen with the marginal social cost curve. While these taxes certainly aren't liked, they do have a bit of an impact. When gas prices are higher, people drive less and carpool more. And not every smoker can afford $5/pack per day for cigarettes. While pigouvian taxes are better for the economy and reflect the true equilibrium as they account for externalities, Washington has people lobbying against them. Voters certainly aren't going to want to vote for someone who is all for raising the gas tax, so it creates a tricky situation. For as much information as there is out there about environmental degradation, one would think that people would be more invested in trying to protect their home turf. This is when policy makers and their constituents need a reality check, that the environment is actually essential to their current ways of life, and if paying a little extra on gas is what it takes to help preserve it, then it needs to be done.

[Cort Hammond]

Wow, all these great comments covered the article thoroughly. So, I decided to read the paper: "The Life and Death of the Dutch Groundwater Tax"
The paper that Zetland attached at the end of this article is similarly intriguing. Apparently, in the 1970s there were problems with desiccation, which were solved with command-and-control solutions. In this paper, Zetland tells us that the Groundwater Tax (GWT) was intended to reduce wasteful consumption of groundwater in 1998. He then shows how the tax was repealed in the face of opposition.

I found Zetland's conclusion the most useful; he states that in order for an Pigouvian tax on an externality-producing good to be successful one must:

--1. record economic, social and environmental targets before and after the tax
--2. analyze the "marginal impact" on existing taxes and regulation (especially at the local level)
--3. avoid forcing taxes on a single group or special interest as they will fight it
--4. avoid "greenwashing" and focus on environmental outcomes

"Greenwashing" : for those who have not heard the term, it is the fact-distorting use of an environmental agenda to sell an idea (tax, product, ideology) that in truth has no environmental benefits.
In this case, the Dutch government was greenwashing by using an environmental protection pretext to levy a tax in order to close an income gap. Data showed that demand was not decreased significantly (and surface water consumption went up) because the tax targeted Drinking Water Companies who had such inelastic demand that they pushed back and had the tax repealed.

Arguably, Zetland's 3rd principle could be stated as:
"Stick to the Pigouvian tax and target moderately elastic demand in the general public; avoid using a Ramsey tax (fiscal tax) that targets very inelastic demand in order to maximize profit (this is what occurred with the GWT."

That's the gist of what Zetland's last 3 lines mean, but his article is worth a read. Clearly, these 4 principles are extremely important and could be applied in almost any situation. Clearly policy stakeholders need to me more cognizant of avoiding by inefficient, greenwashed taxes.

[Julia Seelye]

Professor Zetland's clarification was definitely interesting. While he argues that Pigouvian taxes will not result in a deadweight loss when those taxes are used to change an undesirable behavior and any revenue is used to ameliorate the costs to society (eg taxing cigarettes to reduce consumption and using the revenue to lower health care costs), it is also important to note that government allocation of funds is always less than perfectly efficient when allocating funds. Taxing an inelastic good like gasoline, for example, will bring in revenue, but is unlikely to dramatically alter consumer behavior. The revenue generated from those taxes needs to be used to reduce the costs to society of gasoline consumption, but, in reality, government efficiency is far from ideal. So, while there might not be theoretical deadweight losses from Pigouvian taxes, real-world inefficiencies should be taken into account during policy discussions.

[Jennifer Friberg]

David Zetland's claim that there is NO deadweight loss resulting from Pigouvian taxes may be a little extreme but he makes his point loud and clear. Of course, revenue brought in by Pigouvian taxes will not be used with 100% efficiency to eliminate whatever specific behavior that is being zeroed in on, and most likely, the tax will not always have as much of an effect on the consumer's behavior as the policy-makers intended. However, it is hard to deny that when gas prices go up, people DO make changes. People drive less, carpool more, and are more conscious about their gas use in general. One problem with Pigouvian taxes that I have is that the lower socio-economic classes are more affected by the increase in prices and while the rich may be supplying more of the revenue through the taxes, the poor end having an even harder time affording the commute to work because of a pollution problem that everyone is contributing to. This harsher effect on the poor is a common problem with most taxes however but it is definitely even more intriguing when related to the Pigouvian taxes.

[Nick Cianciolo]

I find it extremely bizarre that many students gave answers referring to dead weight loss when asked to compare the pros and cons of cap and trade or Pigouvian taxes as a way to correct for negative externalities. At least in theory, when correcting for negative externalities (i.e. bad stuff) you are doing more good than bad and thus dead weight loss should not become an issue. It makes me wonder what type of class this was and if it was mainly economics or environmental studies types of majors. We discussed this in class today and most seemed to grasp relatively quickly that when you correct a bad thing you aren’t going to end up with another bad thing, dead weight loss. I know a large portion of our class is not economics majors and this was not an issue. This topic is interesting because our society has so many issues with the word “tax”, unless it only applies to the 1%. Our current tax code is out of date and the whole relationship between taxes, government, and the people needs to reconsidered. When reconsidering the tax code, surely, moderate Pigouvian taxes on negative externalities should be part of a solution. This would lead to a total reshaping of politics in Washington and could lead to a breath of fresh air, or disaster. Also, Jennifer, the poor will not have a harder time handling this Pigouvian taxes because there would be a correlating drop in income and/or payroll taxes that mean the poor have greater discretionary income. In short, Pigouvian taxes should not really be regressive.

[Katherine Rush]

I agree with Emily Zankman's idea above that the word "tax" always has a negative connotation. Even in Microeconomics, most of us were trained to associate taxes with inefficiency, no matter what type of tax it was. I'm glad I read this article clarifying the difference between the effects of Pigouvian taxes and fiscal taxes, because I had honestly always lumped them together as price distortions resulting in that inefficient little triangle on our graphs.

Now that I realize that Pigouvian taxes align marginal social cost with marginal private cost (resulting in the optimal level of production) AND do so by allocating resources more efficiently (without creating a deadweight loss), I agree with Emily that maybe we should rename Pigouvian taxes. Before studying economics, I would definitely have fallen into the trap that most Americans do and equate the word "tax" with a cost and not a benefit. I never would have known that higher gas prices could actually represent both environmental and economic benefits.

[Alex Fernández]

Most people think that the only reason to tax is to generate government revenue. In that particular situation, we place a tax on a market that is efficient and make it inefficient, generating a deadweight loss. Pigouvian taxes are different in that they are used as a mechanism to restore a distorted market. Unlike the previous situation, the Pigouvian tax is implemented in a market that cannot allocate resources efficiently. These resources are misallocated because the price does not reflect the true cost. The Pigouvian tax pushes the market to an efficient equilibrium that is socially optimal. This is very different from the fiscal tax that results in a reduction of efficiency. Still, the idea of a tax generating a “deadweight gain” rather than a loss is a rather foreign concept for most economics students and most certainly the general population. As much as I think Pigouvian taxes in the case of environmentally inefficient situations would be ideal, that does not necessarily translate into Congress enacting new tax legislature over night.
Misinformation on behalf of the general public seems to be an emerging theme in this course.

[Scott Diamond]

Zetland elucidates a common misconception between inefficiencies created by Pigouvian taxes and fiscal taxes. He posits that inefficiencies brought about in an effort to curb an externality through a Pigouvian tax should not be considered deadweight losses. This is solely due to the fact that the inefficiency created by such a tax is coupled with an overwhelmingly favorable reduction in the amount of an externality. Based on my understanding of this article, the main issue seems to surround the semantics of the term “deadweight loss”. It seems as though environmental economists simply want to avoid using the term due to its extremely negative connotation. Despite the overall positive benefit associated with a Pigouvian tax, I find it understandable as to why students would consider this inefficiency to be a deadweight loss. A quick search on Google shows that many educators continue to term the small inefficiency generated from Pigouvian taxes as a deadweight loss. In conclusion, I believe that academia should come to a consensus and ultimately eschew the use of the term “deadweight loss” altogether when discussing Pigouvian taxes.

[Nathan Plein]

I think that this article re-enforces the difference between taxing a "good" vs taxing a "bad". As others have commented above, most people look at a tax as solely a way to raise revenue and it tends to have a negative connotation. However, as we have seen in class and in this article a pigouvian tax does not create deadweight loss, but rather tries to return the market to it optimal point. We usually see a pigouvian tax employed in situations where the marginal social cost is greater than the marginal private cost and is used to reduce harmful behavior. By understanding the differences between a fiscal and pigouvian, it begs the question, why do we currently tax "good" such as income and expenditure at such a high rate, while many "bads" such as carbon don't get taxed at all? Taxing a "good" like income and expenditure creates DWL, while taxing some of these "bads" just returns the markets to their optimal point while still raising revenue. While there are many political roadblocks to making this transition from taxing "good" to "bad" I think this is an issue that needs to be addressed as we move forward.

[Marissa Gubler]

I found this article to be quite interesting as I never thought before that not all taxes create a loss in consumer and/or producer surplus. It is key to understand that there are taxes that the government levies in order to raise revenue and there are Pigouvian taxes that are levied in order to change consumer and producer behavior. A key feature of Pigouvian taxes is that they usually tax emissions or byproducts rather than taxing the good itself, as they are not meant to discourage production or consumption of that particular good. In other words, Pigouvian taxes are meant to discourage and reduce harmful emissions or byproducts to a socially optimal level. A socially optimal level minimizes social costs, which means that the marginal damages have to be equated to the marginal abatement costs. Unfortunately, the government does not know every firms marginal abatement costs and will likely over- or under-estimate those costs, which will lead to a level of emissions that is not socially optimal. Assuming a perfect world, Pigouvian taxes are great at changing producer behavior to achieve a socially optimal outcome while creating no deadweight losses. Let's say that the government issues a Pigouvian tax on sulfur dioxide emissions. In this case, the primary concern is not to use taxes as a way to gain revenue; instead, the taxes are meant to discourage SO2 emissions to a level that is socially optimal. In this way, production and consumption of a beneficial product is not discouraged, but producers are encouraged to lower emissions to a socially optimal level. On the other hand, if the government wants to raise revenue for public programs, it could place a fiscal tax on textbooks, but in the process they would be discouraging consumption of textbooks as potential buyers would not be as willing to pay above market prices. In essence, this creates a deadweight loss in an area that is vital to a successful society, education.

[Ques0burrito]

After reading this clarification on Pigouvian taxes within the context of Kahn’s Chapter 3, I have found them to be the ostensibly best economic incentive. My primary reasoning is that compared to market pollution permits, deposit-refunds, bonding systems, liability systems, and pollution subsidies, Pigouvian taxes tend to have lesser drawbacks. As asserted by the Wageningen University professor, there exist no deadweight loss in the instances of Pigouvian taxes because aligns the marginal social cost to the marginal private cost. Market pollution permits can suffer from trade restriction between firms, liability systems can suffer from moral hazard, and pollution subsidies can actually increase pollution levels. In my opinion, deposit-refund are not that effective from a practicality standpoint because if a consumer does not return the item, e.g. beverage container, the waste then takes up space in a landfill and also leads to transportation costs. Instead if the refund were higher, then more individuals may feel inclined to return their beverage containers, but at current levels it appears that the few cents don’t encourage enough individuals to store and ultimately return their containers. Essentially, the downside of deposit-refunds is that the tax (in disguise) is borne by the consumer rather than the producer. Bonding systems also do not appear as favorable as Pigouvian taxes because given the books description a bonding system consists of one large deposit that does not increase to account for greater than expected levels of output, whereas a Pigouvian tax generates constant government revenue over the production period. Additionally it appears that no other alternative can align marginal social cost with marginal private cost while also influencing behavior and generating revenue to the degree of Pigouvian taxes.

[Matthew Thomas Howell]

I agree with Nick's comment above. Students often do think of a 'tax' as having the standard effect of creating a dead weight loss in the economy. Zetalnd's distinction of how the Pigouvian tax actually differs from the standard fiscal tax is a relatively simple idea, yet had never occurred to me. I believe that his way of classifying the initial market as inefficient and the subsequent market with the Pigouvian tax as efficient is a concept that more people need to be exposed to. Students, politicians, and constituents could all benefit from grasping this concept. With an understanding that the tax would actually benefit society and reduce a DWL, politicians and informed constituents could change current policies that would reduce pollution, as well as generate tax revenue. This outcome would help both the pollution and national debt problems, two issues that have come up often in response to their seemingly unlimited growth in recent times.

[Shawn Swaney]

I find it interesting that Nick brings up the idea of the background of the students. While we really can't know that for sure, it brings in a certain methodology of thought. Personally, I am not an economics major, rather I am in this class for the environmental side of things. Because of that, my first instinct with a lot of these concepts and examples is to take them at face value. Basically thinking "well it has to be 100% flawless because it's in the book." I don't have the economic minded brain that a major would to recognize the flaw in the Pigouvian theory.

Also, Matthew's point about understanding how taxes would benefit society was interesting to me. People knowing the exact intentions behind the tax would incentivize similar thinking, but only in a perfect world. I think that the word "tax", despite the positive benefits they have in this situation, would scare enough people away from allowing this kind of thinking to really gain any traction

[Holley Beasley]

I took Microeconomics, my first Econ class, last semester and I was surprised by how much I loved it. Now, it’s funny, because I still love Econ, but for TOTALLY different reasons. I loved Microeconomics because it was so straightforward. It was the first class I had taken where everything was so black or white. In every market, there were two curves, and almost every market magically pushed itself to its equilibrium point. If, for the few reasons plainly listed in the book, the market did not reach equilibrium on its own, the government could help. Coase said the government should never intervene. Pigou said the government should always intervene. And when the government intervened, it created a nice little triangle on our graphs that we called the deadweight loss.

Now, after just a couple weeks in this class, I have learned that none of that is true. There is no such thing as a perfectly competitive market. Neither Coase nor Pigou gave such clear-cut answers. And Pigouvian taxes do not create deadweight losses. After thinking about it now, it seems so obvious. The whole point of the tax is that the market is not at its socially optimal equilibrium point, and the tax helps bring it to that point. I wonder why I never questioned it before. It’s probably because I am just like many other Economics students and economists; we feel more comfortable sticking to the black and white ideology. I loved Econ last semester because it was like a nice little puzzle to me and everything came together very nicely. Now, however, I have realized that it is still like a puzzle, but the pieces don’t fit together quite as nicely, and there may even be a few pieces missing from the box. I think I like it even more now, though, because the challenges posed by the Economics of Natural Resources makes it a lot more fun to play with.

[Doug Poetzsch]

I agree with many of the previous comments regarding how taxes usually have a negative connotation and how many students usually think of them as revenue generating and deadweight loss creating. This article really clears up the differences between a normal tax and a Pigouvian tax. Pigouvian taxes do not create deadweight loss, they help to get rid of it in naturally inefficient markets. Perhaps economists should not call it a Pigouvian tax, they should call it a Pigouvian market corrector or something that makes it distinctly different from a tax. This way students and economics professors do not get confused on what the Pigouvian tax is actually doing.

[Will Hatfield]

The students before me have stolen my thunder on the points of this article. The Pigouvian tax clearly does not create a deadweight loss because of the "win win" aspect that is highlighted in this article. The tax is market correcting as well as revenue generating. This is a point that most students have acknowledged. I also like Doug's idea of renaming the tax to a correction or modifier.

It is my opinion that this topic is a microcosm of many of the issues that face economics. So often we use a graph to prove a term and keep our head in the sand about what is really going on. In this case we showed that a win-win Pigouvian tax created a deadweight loss. What? Economics has gone away from using math, graphs, and theory to prove the unknown, to using graphs to prove the concepts that economist have already accepted as true. We worry so much about proving the theory that we are slow to question the lesson that we are teaching/learning. Economics was originally founded as an art, an ever evolving subject that has principles but ever changing ideas. I personally appreciate this professor taking a step back and reassessing common "knowledge".

[Austin Pierce]

So, this article has largely been exhausted; however, what I would try to add is that when people advocate for a term other than "tax" for a Pigouvian tax, that implies a very normative economics. Furthermore, although this is simply due to the decisions the discipline has made, the economic definition of "tax" disregards the political philosophy of taxing, etc. This might not be important from the economic angle, but from a policy one, it definitely does.

[Paul R]

I thought the article highlighted the fact that Pigouvian taxes work best with goods bought by people with inelastic behavior. Several goods...(oil, foods, etc) are inelastic in the fact everyone needs food and people who already own cars find oil inelastic in the present(possibly elastic over time (ie: buy an electric car or bike to work)). This concept of time have effects in economics is present also when looking at how companies will react to a pigouvian tax. In the short run the company will just have to pay but over time it can reduce its pollution output and therefore be profit maximizing.
_Paul Reilly

[Wen Xiang Chuah]

Policy perspectives are very distanced from theoretical realities (haha) though. When you boil concepts down to soundbite size, almost everything fundamental is lost in 'translation'. There is very much so a deadweight loss associated with the current costs (or more accurately, price?) of education, and that has very much impacted contemporary political discourse, creating the widening gap between what politicians claim to believe and reality.

[David Fishman]

I do not want to beat a dead horse, so the summary of the above points are accurate: Zetland’s insight that many students do not comprehend that a Pigouvian Tax actually corrects market inefficiencies, rather than creating deadweight losses, is an integral point to understanding economic incentives and their role in mitigating externalities. When MSC>MPC, there is a misallocation of resources that induces an equilibrium where the firm bears less than the socially optimal amount of the cost. Thus, “Pigouvian Taxes correct prices to affect behavior” that provoke, theoretically, the socially optimal equilibrium, eliminating the initial misallocation of resources generated from the market.

Since that has already been said, there are two more points I’d like to address. First, the point of if this tax is regressive or not, mentioned previously. The answer is: it depends. I would agree that a gasoline tax, etc, is regressive If individual’s behavior does not change. Yet, if that is true, then economic incentives would be irrelevant. Rather, this tax should induce, especially poorer individuals, to change their mode of transportation along with automobile producers to begin producing more efficient cars ( I can still see how one would argue that by causing poorer individuals to change their behavior drastically, it is regressive from a welfare perspective), or the government could institute revenue neutral Pigouvian Taxes. This is what I find most feasible and tend to prefer. By generating revenue from commodities with inelastic demand that produce externalities from consumption, and using this revenue to pay for tax rate reductions, people will have more discretionary income. Not only that, but they will have more discretionary income and the relative cost of these commodities will be higher, so the price effect will induce individuals to consume less of the commodity and purchase more of something else, not reducing the individual’s level of utility.

Lastly, it should be pointed out that Pigouvian Taxes only do not cause dead weight loss if we can accurately quantify the cost of the externality. Let’s be honest, there are wide ranges of values placed on certain externalities, and without concrete market prices we can never be sure…but we can certainy come close. Thus, if the tax is too high, there will be a deadweight loss and if the tax is too low, we will still have a misallocation of resources. Yet, at least an ameliorated version of the misallocation is better than the entire burden.