Pigouvian Taxation, Externalities and Markets.

Tim Worstall, Writing at the ASI makes an interesting point about Pigouvian taxation. Namely that politicains will see them as a source of revenue rather than simply trying to disinterestedly find the level of Externalities to build into the price.

And I’m afraid that the more we see of entirely righteous Pigou Taxes the more we see of this behaviour. I pointed out in these very pages some years back that if we applied the Stern Review to petrol taxation then fuel duty should fall by 12 p a litre: since then it has risen another 5 or 6 p still using Stern as the justification. Air Passenger Duty was set (amazingly, by Gordon Brown) at the Stern level of some $80 per tonne Co2-e: it has been doubled at least since then purely for revenue purposes.

Of course that’s the “pigouvian” element of these taxes. But many taxes, such as land value and fuel duties are not just pigouvian searches for the correct price for the externalities. In the case of APD and Fuel, this “externality” is the price of climate change caused by CO2, but They are also part of the system of taxes which set the price on the use of a scarce resource: Road and Air space. Here the “correct” price is whatever the market will bear to ensure the (for example) roads run full, but not congested. So it’s possible to argue that road space (as priced by fuel duty) is too expensive for 12 hours a day (overnight when the roads are empty), far too cheap for 4 hours a day, and about right for the rest of the time when the road flow is high but laminar.

Taxation can be used to ensure a more efficient use of a scarce resource. A tax on the value of a property for example, will provide an incentive to buy a house no bigger than you need, encouraging Granny to move out of her 4 bedroom house earlier than she may have done, increasing supply for those who may well value these scarce properties more: Families with children.

There are NO upsides to income taxation. Given that the money needs to be raised somehow, wouldn’t it be better if our taxes helped ensure assets were used more efficiently? These are also taxes that can be avoided by changing behaviour, which makes it harder for a Chancellor to take a higher share of the national pie than people are comfortable with. Income taxes are an unavoidable punch in the face. A pound raised from pigouvian tax, even a tax set at too high a level is better than one on income or corporate profits, that reduces the supply of jobs.

Finally, the very fact that these taxes are deeply unpopular is a good thing. It is harder politically for the Chancellor to screw more out of drivers than he is doing. However he is under constant pressure to increase taxes on “the rich” (i.e. people other than “me”). If the basis of taxation moved towards consumption, the chancellor, rather than finding it easier to raise money and spend more, will find it harder as people change behaviour to avoid the tax, and agitate against it if they can’t.

Tell me that’s a bad thing.

2 replies
  1. SIPP investments
    SIPP investments says:

    A consumption tax is the holy grail of all libertarians. It would in one fell swoop eliminate the need for the revenue service, IRS etc. It would promote savings and investment over consumption. And people would find all sorts of ways 'round it, like barter!

  2. Mark
    Mark says:

    Its not a bad thing, its just what is defined as a "scarce resource" and the divide and rule politics used to ensure "scarcity".


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