Environmental taxation, information precision, and information sharing

Abstract

We analyze how environmental taxes should be optimally levied in a sequential game in which regulators and firms face costs uncertainties. First, the regulator chooses the intensity of emissions taxes to reduce externalities. Then, facing common and private information with noisy signals, firms compete in the marketplace and choose outputs. We show that, under nonuniform quality of signals across firms, the regulator may calibrate differentiated tax policy. We also show that the social impact of more precise private signals hinges largely and fundamentally on the value of the ratio of the slopes of the marginal damage and the marginal consumer surplus. Finally, we investigate information sharing between polluters and its impacts on welfare. We stress that, when there are threats of severe environmental damages under deep uncertainties, collusion is welfare reducing and may jeopardize the regulatory process. Regulators need to set an appropriate precautionary policy. Numerical simulations illustrate the results that the model delivers.