Vertical fiscal externalities and the environment |
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| Institution: | 1. Department of Economics, University of Oldenburg, Germany;2. Graduate School of Public and International Affairs and Institute of the Environment, University of Ottawa, Canada;3. Department of Management, Technology and Economics, ETH Zürich, Switzerland;3. Resources for the Future, USA;4. Beihang University, China;1. Mercator Research Institute on Global Commons and Climate Change (MCC), Torgauer Straße 12-15, 10829 Berlin, Germany;2. Potsdam Institute for Climate Impact Research (PIK), PO Box 601203, 14412 Potsdam, Germany;3. Technical University Berlin, Strasse des 17. Juni 135, 10623 Berlin, Germany |
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| Abstract: | We show that imposition of a state-level environmental tax in a federation crowds out pre-existing federal taxes. We explain how this vertical fiscal externality can lead unilateral state-level environmental policy to generate a welfare gain in the implementing state, at the expense of other states, even absent any environmental benefits. Using a computable general equilibrium model of the Canadian federation, we show that vertical fiscal externalities can be the major determinant of the welfare change following environmental policy implementation by a state government. Our numerical simulations indicate that – as a consequence of vertical fiscal externalities – state governments can reduce greenhouse gas emissions by over 20 percent without any net cost to themselves. |
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| Keywords: | Fiscal externality Climate policy Federalism Computable general equilibrium |
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