International Review of Environmental and Resource Economics > Vol 11 > Issue 3

Optimal Taxation, Redistribution, and Environmental Externalities

Thomas Aronsson, Umeå School of Business, Economics and Statistics, Umeå University, Sweden, , Tomas Sjögren, Umeå School of Business, Economics and Statistics, Umeå University, Sweden,
Suggested Citation
Thomas Aronsson and Tomas Sjögren (2018), "Optimal Taxation, Redistribution, and Environmental Externalities", International Review of Environmental and Resource Economics: Vol. 11: No. 3, pp 233-308.

Publication Date: 30 Aug 2018
© 2018 T. Aronsson and T. Sjögren
Environmental economics,  Public economics
JEL Codes: D60D62H21H23Q51
Environmental externalitiesoptimal taxationredistributionincome taxationcommodity taxation


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In this article:
1. Introduction 
2. A Benchmark Model 
3. Second-Best Taxation in the Benchmark Model 
4. Two Extensions of the Benchmark Model 
5. Transboundary Environmental Damage 
6. An Overlapping Generations Economy with a Stock-Externality 
7. Summary and Discussion 


This paper surveys research on optimal redistributive taxation in economies with environmental externalities. A key question is whether externality correction only motivates an adjustment of the tax policy rule for the externality-generating activity, or whether the marginal value of the externality directly enters the policy rules for other tax instruments as well. In a static benchmark model with an atmospheric consumption externality, where the government uses a mix of a nonlinear income tax and linear commodity taxes, one can show that Sandmo's (1975) additivity property applies. This means that externality correction leads to an additional term (measuring the marginal value of the externality) in the commodity tax formula for the externality-generating good, while the policy rules for commodity taxation of clean goods and marginal income taxation take the same form as in the absence of any externality. We also extend this benchmark model to capture a number of scenarios (such as non-atmospheric externalities, border trade in the externality-generating good, and competition between governments in a multi-country framework), where the additivity property no longer applies. We end by examining an intertemporal model of optimal taxation with a stock-externality, allowing us to integrate the study of optimal redistributive taxation with literature on environmental economics and policy based on dynamic models.