Lecture 1
Subsidies vs Taxes
Post-class
- In class we worked through a graphical comparison of the efficiency of taxes and subsidies. Be sure that you can draw both graphs and talk through the intuition for the changes.
- Does the quantity of green energy supplied change when dirty energy is taxed? Why?
- Does the quantity of dirty energy change when green energy is subsidized? Why?
- In the graphs, the quantity of green energy after the tax and subsidy, q’R, was selected to be the same in both cases. I then asserted that the total amount of dirty energy, q’D would have to be lower in the tax case. Why is that? Can you show this algebraically?
Key points
- The economist’s prescription for reducing emissions is to tax carbon. But this is politically difficult. Instead, many governments have chosen to subsidize renewable energy.
- We went through a simple graphical model to illustrate that a “green subsidy” (where you subsidize a green good but don’t tax a dirty good) can never be as efficient as a carbon tax.
- Know how to draw the graph and explain why the subsidy is less efficient.
- We also discussed the public finance implications of subsidies. Taxes raise revenue, but subsidies require government spending.
Additional material
- Read this blog post from Jim Sallee on green subsidies (ignore the part about Trump’s second term at the end).
Lecture 2
Subsidy targeting
Pre-class
- Read the following two blog posts on the specific issue of subsidy targetting:
Post-class
- In class we discussed how to compute subdidy additionality. Practice applying the formula for subsidy additionality in this short homework assignment.
- Read Rapson & Muehlegger (REEP 2023), “The Economics of Electric Vehicles” for an overview of the economics of electric vehicles, including some of the calculations we did in class.
Key points
- Subsidies can never be as efficient as taxes, but some subsidies are better targeted than others.
- Know the concept of cost-effectiveness and how to compute subsidy additionality.
- Also understand the difference between EV adoption and emissions reductions. Subsidies that increase EV adoption may not reduce emissions if they are not targeted to the right consumers.