Working Papers in Economics,
University of Gothenburg, Department of Economics

Abstract: We examine the effect of addictive behavior on a socially optimal environmental tax. If utility in part depends on past consumption and individuals are time-consistent, the socially optimal environmental tax is shown to be equal to the conventional Pigovian tax. In a second-best world where the social planner has a restriction on the future environmental tax level, the current optimal tax is no longer equal to the Pigovian tax. We extend the analysis with time-inconsistent (myopic) individuals to both the first (no restriction on future environmental tax) and second-best world (restriction on future environmental tax). Also, the importance of addiction in an environmental framework is discussed.

Keywords: Optimal taxation; environment; addiction; timeinconsistency; second-best

JEL-codes: D62; D91; H21

26 pages, March 12, 2003

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