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Rationally Expected Externalities: The Implications for Optimal Waste Discharge and Recycling


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  • R.A. Somerville

    (Department of Economics, Trinity College Dublin)

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    What if consumers' actions reveal concern for contributing to an externality, even without a pecuniary incentive? Within a two-level model, a policymaker prices disposal of waste, and a representative consumer chooses a consumption level for a dirty good and a division of the consequent waste between recycling and disposal; only disposal creates an externality. In the special case of rational expectations, each consumer accepts full responsibility for his contribution to the externality. A first-best optimum is then achieved by a form of Pigouvian pricing, assuming unconstrained income taxes/transfers. Otherwise, Pigouvian pricing is second-best, unless individuals disclaim all responsibility for the externality and utility has a separable form. The model explains why recycling may occur even with free waste-disposal.

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    Bibliographic Info

    Paper provided by Trinity College Dublin, Department of Economics in its series Trinity Economics Papers with number tep0112.

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    Length: 31 pages
    Date of creation: Jan 2012
    Date of revision:
    Handle: RePEc:tcd:tcduee:tep0112

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    Postal: Trinity College, Dublin 2
    Phone: (+ 353 1) 6081325
    Fax: 6772503
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    Keywords: externality; Pigouvian tax; separable utility; rational expectation; recycling;

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    1. Don Fullerton & Andrew Leicester & Stephen Smith, 2008. "Environmental Taxes," NBER Working Papers 14197, National Bureau of Economic Research, Inc.
    2. Weitzman, Martin L, 1974. "Prices vs. Quantities," Review of Economic Studies, Wiley Blackwell, vol. 41(4), pages 477-91, October.
    3. Louis Kaplow & Steven Shavell, 1997. "On the Superiority of Corrective Taxes to Quantity Regulation," NBER Working Papers 6251, National Bureau of Economic Research, Inc.
    4. R. A. Somerville, 2007. "Differentiable Technology, the Curvature of the Profit Function, and the Response of Supply to Own-Price Changes," The Journal of Economic Education, Taylor & Francis Journals, vol. 38(2), pages 222-228, April.
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