Tax on Negative Externalities

1. Taxes On Negative Externalities

DISADVANTAGES of taxes

• Difficult to measure the level of negative externality e.g. what is the cost of pollution from a car?
• If Demand is inelastic then higher taxes will not reduce demand much
• Taxes will cause inequality
• Cost of administration
• Possibility of evasion. E.g. with tax on disposing of rubbish there has been anincrease in fly tipping (illegal Dumping of rubbish)
• May be difficult to decide who is causing pollution

Advantages of Taxes

• Provides incentives to reduce the negative externality such as pollution. E.g. cars have become more fuel efficient
• Social efficiency, 1st best solution.(where MSC = MSB)
• Taxes raise revenue for the govt. This can be spent on alternatives.