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Thursday, April 27, 2006

Mankiw: Trade Pigovian Taxes for Permanent Income, Dividend, and Estate Tax Cuts

Greg Mankiw has an idea to solve the political impasse on the budget deficit:

Greg Mankiw's Blog: A Comeback for Pigou?: In the past few days, I have run across a couple of articles (here and here), admittedly in relatively minor places, arguing for higher Pigovian taxes, such as a tax on gasoline or a tax on carbon. ... Pigovian taxes both produce government revenue and correct a market failure arising from an externality like pollution. I have long thought that Pigovian taxes are underused.

How about this for a political compromise?

The Democrats say they want more environmental protection. The Republicans say they want to make permanent the recent cuts in income, dividend, and estate taxes. Everyone says they want a smaller budget deficit. We can achieve all of these objectives by agreeing to higher Pigovian taxes, such as taxes on gasoline or carbon. The Republicans concede that government revenue will be higher than it is under the President's proposed budget, and the Democrats concede that the President's tax cuts on income, dividends, and estates will be permanent.

Please don't post a comment saying how politically naive this is. I know it is. But I bet I could convince a majority of the American Economic Association to sign on!

It depends. These taxes are a good idea in isolation since they solve market failure problems, so if we get to ignore political realities there is no need to trade one tax for another, Pigovian taxes can be imposed on their own merits. So yes, I will sign on to correct market failures through the imposition of Pigovian taxes.

But if I am forced to trade these taxes for other policy changes that I do not agree with on both efficiency and equity grounds, then the details of the tradeoff become important. What size changes are we talking about? Would it be better to use the revenues to, say, offset the negative consequence of pollution rather than to reduce other taxes? In addition, the difficulty for me comes with being asked to trade a Pigovian tax that both Republicans and Democrats can agree, or ought to agree is needed on efficiency grounds for policies that Democrats disagree with. In such a trade, it's hard to see what Republicans have given up. Are Republicans opposed to efficient markets?

    Posted by on Thursday, April 27, 2006 at 12:33 AM in Economics, Environment, Market Failure, Policy, Politics, Taxes | Permalink  TrackBack (0)  Comments (18)

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