IDEAS home Printed from
MyIDEAS: Login to save this paper or follow this series

The Usual Excess-Burden Approximation Usually Doesn't Come Close

  • Lawrence H. Goulder
  • Roberton C. Williams III

This paper shows that the usual excess-burden triangle' formula performs poorly when used to assess the excess burden from taxes on intermediate inputs or consumer goods, and derives a practical alternative to this formula. We use an analytically tractable general equilibrium model to reveal how interactions with pre-existing taxes in other markets critically affect the excess burden of new taxes on intermediate inputs or consumer goods. The usual excess-burden formula ignores these interactions, and consequently yields highly inaccurate assessments of excess burden. Prior economic theory implicitly acknowledges the relevance of general-equilibrium interactions to excess burden, but does not indicate which interactions are most important or reveal the fundamental (first-order) contribution of these interactions. Moreover, prior studies do not offer a practical alternative to the usual excess-burden approximation. This paper helps fill the gap between theory and practice. First, it shows analytically that the importance of the interaction with a given pre-existing tax is roughly proportional to the amount of revenue raised by that tax. Second, the paper derives a practical alternative formula for approximating the excess burden from a commodity tax. Finally, it performs numerical simulations to illustrate the significance of adopting our alternative to the usual approximation formula. For realistic parameter values and a wide range of assumed rates for prior taxes, the usual formula captures less than half of the excess burden of taxes on commodities. When the rate of the new tax is small,' this formula captures less than five percent of the true excess burden. In contrast, the alternative approximation formula derived here yields estimates that are consistently within five percent of the actual excess burden.

If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.

File URL:
Download Restriction: no

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 7034.

in new window

Date of creation: Mar 1999
Date of revision:
Publication status: published as Goulder, Lawrence and Roberton C. Williams III. "The Substantial Bias from Ignoring General Equilibrium Effects in Estimating Excess Burden, and a Practical Solution." Journal of Political Economy 111 (2003): 898-927.
Handle: RePEc:nbr:nberwo:7034
Note: PE
Contact details of provider: Postal: National Bureau of Economic Research, 1050 Massachusetts Avenue Cambridge, MA 02138, U.S.A.
Phone: 617-868-3900
Web page:

More information through EDIRC

References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:

as in new window
  1. Lars Hokonsen, 1998. "An Investigation into Alternative Representations of the Marginal Cost of Public Funds," International Tax and Public Finance, Springer, vol. 5(3), pages 329-343, July.
  2. Bovenberg, A.L. & Van Der Ploeg, F., 1992. "Environmental Policy, Public Finance and the Labour Market in a Second- Best World," Papers 9243, Tilburg - Center for Economic Research.
  3. Parry, Ian & Goulder, Lawrence & Williams III, Roberton, 1997. "When Can Carbon Abatement Policies Increase Welfare? The Fundamental Role of Distorted Factor Markets," Discussion Papers dp-97-18-rev, Resources For the Future.
  4. Bovenberg, A.L. & de Mooij, R.A., 1994. "Environmental levies and distortionary taxation," Other publications TiSEM 4b32deaa-ec2f-4de7-b59b-9, Tilburg University, School of Economics and Management.
  5. Ballard, Charles L & Shoven, John B & Whalley, John, 1985. "General Equilibrium Computations of the Marginal Welfare Costs of Taxes in the United States," American Economic Review, American Economic Association, vol. 75(1), pages 128-38, March.
  6. Ruud de Mooij & A. Bovenberg, 1998. "Environmental Taxes, International Capital Mobility and Inefficient Tax Systems: Tax Burden vs. Tax Shifting," International Tax and Public Finance, Springer, vol. 5(1), pages 7-39, February.
  7. Browning, Edgar K, 1987. "On the Marginal Welfare Cost of Taxation," American Economic Review, American Economic Association, vol. 77(1), pages 11-23, March.
  8. Boadway, Robin & Harris, Richard, 1977. "A characterization of piecemeal second best policy," Journal of Public Economics, Elsevier, vol. 8(2), pages 169-190, October.
  9. Charles L. Ballard & Don Fullerton, 1990. "Distortionary Taxes and the Provision of Public Goods," NBER Working Papers 3506, National Bureau of Economic Research, Inc.
  10. Bovenberg, A Lans & de Mooij, Ruud A, 1997. "Environmental Levies and Distortionary Taxation: Reply," American Economic Review, American Economic Association, vol. 87(1), pages 252-53, March.
  11. Auerbach, Alan J., 1985. "The theory of excess burden and optimal taxation," Handbook of Public Economics, in: A. J. Auerbach & M. Feldstein (ed.), Handbook of Public Economics, edition 1, volume 1, chapter 2, pages 61-127 Elsevier.
  12. Lucas, Robert E, Jr, 1990. "Supply-Side Economics: An Analytical Review," Oxford Economic Papers, Oxford University Press, vol. 42(2), pages 293-316, April.
  13. Atkinson, A. B. & Stiglitz, J. E., 1972. "The structure of indirect taxation and economic efficiency," Journal of Public Economics, Elsevier, vol. 1(1), pages 97-119, April.
  14. Lawrence H. Goulder & Ian W. H. Parry & Dallas Burtraw, 1996. "Revenue-Raising vs. Other Approaches to Environmental Protection: The Critical Significance of Pre-Existing Tax Distortions," NBER Working Papers 5641, National Bureau of Economic Research, Inc.
  15. Williams III, Roberton C., 1999. "Revisiting the cost of protectionism:: The role of tax distortions in the labor market," Journal of International Economics, Elsevier, vol. 47(2), pages 429-447, April.
Full references (including those not matched with items on IDEAS)

This item is not listed on Wikipedia, on a reading list or among the top items on IDEAS.

When requesting a correction, please mention this item's handle: RePEc:nbr:nberwo:7034. See general information about how to correct material in RePEc.

For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: ()

If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

If references are entirely missing, you can add them using this form.

If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.

If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.

Please note that corrections may take a couple of weeks to filter through the various RePEc services.

This information is provided to you by IDEAS at the Research Division of the Federal Reserve Bank of St. Louis using RePEc data.