Discuss the effect of a carbon tax on the level of carbon emissions

A carbon tax can be implemented to address the negative externality from carbon emissions at the point of production from firms. The tax forces firms to cut their emissions as it increases their costs; this should allow for us to see a reduction in emissions towards a more socially optimal equilibrium, reducing the effect of the negative externality. (draw a diagram showing mpc and msc). It also allows the government to collect a fiscal dividend, which could be used to address the problem of carbon emissions elsewhere, such as through increasing investment into renewable energies. However, it could be argued that it depends on the extent of the tax and the market it is enforced in. For example, large companies such as monopolies may be able to continue to produce anyway, making the tax ineffective. At the same time, it also depends on the elasticity of demand whereby if demand is very inelastic, firms can pass the cost of the tax onto their consumers who will continue to demand it anyway, this means emissions will not actually be reduced as much.

Answered by Evie J. Economics tutor

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