The case for Pigovian taxes

In a recent post, Kevin Corcoran expresses skepticism about the desirability of Pigovian taxes. He makes the following comment about taxes aimed at discouraging the consumption of unhealthy foods:

One of my favorite recent explanations for this problem came from Scott Alexander. Alexander used the example of how taxes and subsidies could theoretically be used to encourage people to eat healthier. But Alexander then notes:

You’re probably thinking this is an argument that vouchers + taxes/subsidies are a great solution. No. I say that in principle they are a great solution. In practice, they have failed spectacularly, because we subsidize the least healthy foods and limit the production of healthy foods.

After providing numerous examples of the types of subsidies and restrictions that arise from the political process as it actually exists, Alexander concludes: “Given our existing government, these should not be allowed within a light year of establishing one’s diet. To speculate that the people administering the program might be virtuous, competent individuals acting for the good of the public is to say that what has already happened will not happen.

I’m not convinced that consuming unhealthy foods creates negative externalities, so I don’t disagree with Alexander on this point. Unhealthy people receive more Medicare and less Social Security. It’s hard to say how it will all turn out. I remember surveys of smokers suggesting it’s about a wash. So let’s put the food issue aside and look at goods that clearly cause negative externalities, such as burning coal.

If we accept that some taxes will exist, it makes sense to increase tax revenues in the most efficient way possible. This means higher taxes on goods with negative externalities than on goods with positive externalities. Unfortunately, the US government tends to do the opposite: it taxes work, saving and investing heavily, but not the consumption of goods that emit CO2.

Here in Orange County, the government recently implemented a congestion tax on the left two lanes of “the 405.” I love this tax and choose to drive in those two lanes when traveling to my libertarian social events in LA. Some may argue that this is not a tax as you are free to use the appropriate 5 lanes. Nonsense. That’s like saying a tax on gasoline isn’t really a tax because you’re free to use a horse. Drivers in the left 2 lanes must pay the congestion tax; it’s not an option. The lanes are even separated by those flexible plastic poles.

[As an aside, these tolled lanes do not substantially favor the rich.  I’ve observed that the kind of cars that drive in the pay lanes are very similar to those that drive in the free lanes.]

This example shows that not all Pigovian taxes are a failure. Other successes include congestion charging in cities such as Singapore, London and Stockholm. New York City recently decided not to implement its planned congestion pricing, even though the history of these policies shows that they become much more popular after they are implemented.

In a recent comment said Jon Murphy said:

The Pigouvian tax does generate some revenue, but that is not the goal. The amount it generates is relatively small (in theory none, as all income must be used to offset the weight loss due to the externalities).

I disagree on two points:

1. In my view, Pigovian taxes have two goals: increasing revenues and reducing negative externalities.

2. I disagree that in theory revenues should be used to offset negative externalities. Governments may do this for political reasons, but it is not a good use of public resources. I know of no theory that says this is a sensible way to determine government spending.

Yet another point. There is a lot of cynicism about the effectiveness of governments. I share the cynicism, to some extent. But many people draw the wrong conclusions from their cynicism.

The phrase ‘going to Denmark’ in development economics refers to the idea of ​​making your public sector as efficient and non-corrupt as possible. In Denmark, even major airports and fire brigades have been privatized. Of course, most countries are more corrupt than Denmark, which leads to a certain healthy skepticism about the role of government. I share that skepticism.

But cynicism can go too far and end in fatalism. If we come to believe that reforming the government is hopeless, and that in the long run we will all end up with something as dysfunctional as the Venezuelan government, then it is difficult to see how we can move forward as a society. The key is to move towards reforms eyes wide open about the problem of public choice.

For example, I have argued in the past that the party most opposed to taxes (presumably the Republican Party) could offer to support a carbon tax, but only if it is combined with offsetting cuts to another tax. So a carbon tax could be accompanied by an end to the requirement to withdraw 401k funds at age 73. That tax reform package would encourage more saving and investment and improve the environment.

A cynic might say that such win-win tax reform is impossible in our highly polarized society. If that’s true, we may end up like Venezuela. But I remember a time when this kind of bipartisan reform was possible. In 1986, Democrats and Republicans agreed to reform the income tax system by combining a Republican goal (much lower tax rates) with a Democratic goal (much fewer loopholes).

If the cynics are right about the inevitability of government corruption, then there is no hope for the future. Over time, more and more inefficiencies will arise. I understand that there is little or no hope for bipartisan reform at this point. But I also believe that economists should continue to explain the most efficient way to run a fiscal regime, in the hope that at some point in the future the political tide will turn towards a more idealistic zeitgeist.