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Pigou Meets Mirrlees: On the Irrelevance of Tax Distortions for the Second-Best Pigouvian Tax

  • Bas Jacobs
  • Ruud A. de Mooij

This paper extends the Mirrlees (1971) model of optimal income redistribution with optimal corrective taxes to internalize consumption externalities. It is demonstrated that the optimal second-best tax on an externality-generating good should not be corrected for the marginal cost of public funds. The reason is that the marginal cost of public funds equals unity in the optimal tax system, since marginal distortions of taxation are equal to marginal distributional gains. The Pigouvian tax needs to be modified, however, if polluting commodities or environmental quality are more complementary to leisure than non-polluting commodities are.

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File URL: http://www.cesifo-group.de/portal/page/portal/DocBase_Content/WP/WP-CESifo_Working_Papers/wp-cesifo-2011/wp-cesifo-2011-02/cesifo1_wp3342.pdf
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Paper provided by CESifo Group Munich in its series CESifo Working Paper Series with number 3342.

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Date of creation: 2011
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Handle: RePEc:ces:ceswps:_3342
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  1. Cremer, Helmuth & Gahvari, Firouz & Ladoux, Norbert, 1998. "Externalities and optimal taxation," Journal of Public Economics, Elsevier, vol. 70(3), pages 343-364, December.
  2. Bas Jacobs & Rick van der Ploeg, 2010. "Precautionary Climate Change Policies and Optimal Redistribution," OxCarre Working Papers 049, Oxford Centre for the Analysis of Resource Rich Economies, University of Oxford.
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  4. Emmanuel Saez, 2000. "Using Elasticities to Derive Optimal Income Tax Rates," NBER Working Papers 7628, National Bureau of Economic Research, Inc.
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  8. Jukka Pirttilä & Ilpo Suoniemi, 2010. "Public Provision, Commodity Demand and Hours of Work: An Empirical Analysis," CESifo Working Paper Series 3000, CESifo Group Munich.
  9. Holmlund, Bertil & Kolm, Ann-Sofie, 1998. "Environmental Tax Reform in a Small Open Economy with Structural Unemployment," Working Paper Series 1997:2, Uppsala University, Department of Economics.
  10. Jacquet, Laurence & Lehmann, Etienne & Van der Linden, Bruno, 2010. "Optimal Redistributive Taxation with Both Extensive and Intensive Responses," IZA Discussion Papers 4837, Institute for the Study of Labor (IZA).
  11. Louis Kaplow, 2006. "Optimal Control of Externalities in the Presence of Income Taxation," NBER Working Papers 12339, National Bureau of Economic Research, Inc.
  12. Diamond, Peter A & Mirrlees, James A, 1971. "Optimal Taxation and Public Production: I--Production Efficiency," American Economic Review, American Economic Association, vol. 61(1), pages 8-27, March.
  13. Wildasin, David E, 1984. "On Public Good Provision with Distortionary Taxation," Economic Inquiry, Western Economic Association International, vol. 22(2), pages 227-43, April.
  14. Guy Laroque, 2004. "Indirect Taxation is Superfluous under Separability and Taste Homogeneity : A Simple Proof," Working Papers 2004-23, Centre de Recherche en Economie et Statistique.
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  17. Gahvari, Firouz, 2006. "On the marginal cost of public funds and the optimal provision of public goods," Journal of Public Economics, Elsevier, vol. 90(6-7), pages 1251-1262, August.
  18. Stéphane Gauthier & Guy Laroque, 2008. "Separability and Public Finance," Working Papers 2008-24, Centre de Recherche en Economie et Statistique.
  19. Pirttila, Jukka, 2000. "A Many-Person Corlett-Hague Tax Rule with Externalities," Oxford Economic Papers, Oxford University Press, vol. 52(3), pages 595-605, July.
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  25. Sandmo, Agnar, 1998. "Redistribution and the marginal cost of public funds," Journal of Public Economics, Elsevier, vol. 70(3), pages 365-382, December.
  26. Pearce, David W, 1991. "The Role of Carbon Taxes in Adjusting to Global Warming," Economic Journal, Royal Economic Society, vol. 101(407), pages 938-48, July.
  27. Atkinson, A. B. & Stiglitz, J. E., 1976. "The design of tax structure: Direct versus indirect taxation," Journal of Public Economics, Elsevier, vol. 6(1-2), pages 55-75.
  28. Feldstein, Martin S, 1972. "Distributional Equity and the Optimal Structure of Public Prices," American Economic Review, American Economic Association, vol. 62(1), pages 32-36, March.
  29. Atkinson, Anthony B & Stern, N H, 1974. "Pigou, Taxation and Public Goods," Review of Economic Studies, Wiley Blackwell, vol. 41(1), pages 119-28, January.
  30. Seade, J. K., 1977. "On the shape of optimal tax schedules," Journal of Public Economics, Elsevier, vol. 7(2), pages 203-235, April.
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