How Should Different Countries Tax Fuels to Correct Environmental Externalities

Abstract

This essay discusses (based on a recent IMF study) how developed and developing countries alike might put into practice the principle of 'getting prices right' to address the major externalities from energy. The efficient set of taxes includes charges on fuel use for carbon and local pollution (with credits for emissions capture during combustion) and additional charges on motor fuels for road congestion and accidents (though the latter should transition to distance-based charges). Techniques and data sources for measuring the externalities and corrective taxes by country are discussed. In general, heavy taxes on coal and motor fuels are warranted (though there is substantial cross-country variation in corrective tax rates). For most countries, tax reform could yield considerable fiscal, health, and carbon benefits.