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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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  11. Jenny Ligthart & Frederick Van Der Ploeg, 1999. "Environmental Policy, Tax Incidence, and the Cost of Public Funds," Environmental & Resource Economics, European Association of Environmental and Resource Economists, vol. 13(2), pages 187-207, March.
  12. Laurence JACQUET & Etienne LEHMANN & Bruno VAN DER LINDEN, 2010. "Optimal Redistributive Taxation with both Extensive and Intensive Responses," Discussion Papers (IRES - Institut de Recherches Economiques et Sociales) 2010033, Université catholique de Louvain, Institut de Recherches Economiques et Sociales (IRES).
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  21. Laroque, Guy R., 2005. "Indirect taxation is superfluous under separability and taste homogeneity: a simple proof," Economics Letters, Elsevier, vol. 87(1), pages 141-144, April.
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  27. 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.
  28. Sandmo, Agnar, 1998. "Redistribution and the marginal cost of public funds," Journal of Public Economics, Elsevier, vol. 70(3), pages 365-382, December.
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