Mirrleesian Carbon Taxation

Abstract: 

Alleviating the economic damages from climate change is, to first order, a problem of efficiently limiting firms' emissions. We analyze a neoclassical general-equilibrium model in which fossil-energy use generates climate damages. The model crucially incorporates substantial cross-firm heterogeneity in emission efficiency that we document using a novel firm-level dataset spanning 150 countries. Firms choose energy and other inputs and self-report emissions that are otherwise privately observed. Our central result is a simple formula for the marginal externality damage of emissions---the optimal carbon tax---that accounts for firms' incentives to distort reported emissions. The optimal tax varies markedly across firms as a function of marginal damages, output and emission efficiencies, and exceeds common uniform-tax benchmarks, on average. Quantifying the model shows large welfare gains from internalizing reporting incentives: the constrained optimal tax recovers 3/4 of the potential welfare benefits; a uniform tax that does not internalize reporting incentives, by contrast, recovers almost none of them.