Regional Environmental Tax Reform in a Fiscal Federalism Setting

Abstract

The increasing attention to climate change has led national Governments to design environmental tax policies able to face environmental problems and their associated economic consequences as a negative change in GDP. Environmental taxation in particular is considered a powerful instrument of pollution control. More importantly, it provides public revenue that can be recycled both at the State level and Local level in order to attain the reduction of greenhouse gas emissions and the regional double dividend. In this respect, we use a Computable General Equilibrium (CGE) model with an imperfect labor market, to assess the regional effects of an environmental fiscal reform designed with the aim of reducing the CO2 emissions in a fiscal federalism setting. In particular, we introduce a local green tax on commodities output with a progressive structure. The tax burden depends on the commodity polluting power and the tax revenue is collected by the Local Government. According to the fiscal federalism principles, the Central Government reduces the transfers to the Local Government by the same amount of the tax revenue and compensates the transfer reduction with a cut in household income tax. The application is done on a bi-regional Social Accounting Matrix for Italy and the results highlight the distributional effects of the reform on macroeconomic variables into the bi-regional income circular flow.