Figure 17-4 The Efficiency of Emissions Taxes
Emissions Taxes
An alternative method of pollution reduction is to levy a tax on emissions
at the source. The advantage of imposing a tax on each unit of pollution
emitted is that each individual polluting firm is forced to internalize the
negative externality associated with the pollution it is producing. This can
lead to efficient pollution abatement.
Let’s return to our example of two firms producing sulphur dioxide
emissions. Suppose Firm A can reduce emissions cheaply, while it is more
expensive for Firm B to reduce emissions. And further suppose that all
firms are required to pay a tax equal to $t per unit of pollution emitted.
For example, assume that the tax is $10 per unit of sulphur dioxide
emissions. Since firms must pay $10 for every unit of pollution they
produce, they will save $10 for every unit of pollution they do not produce
It follows that the emissions tax of $10 is each firm’s marginal benefit of
pollution abatement. The goal of profit maximization will then lead firms
to reduce emissions to the point where the marginal cost of further
reduction is just equal to $10. Such a situation is illustrated in Figure
4 .