Noting that developing countries may not have the administrative capacity to levy a “pure” carbon tax, we compare the impact of alternative energy taxes with that of a carbon tax in an economy with multiple distortions. We use a disaggregated computable general equilibrium (CGE) model of the South African economy and simulate a range of tax policies that reduce CO2 emissions by 15 percent. Consistent with a “first-best” economy, a carbon tax will have the lowest marginal cost of abatement. But the relationship between a tax on energy commodities and one on pollution-intensive commodities depends critically on other distortions in the system and on structural rigidities in the economy. We demonstrate that if South Africa were able to remove distortions in the labor market, the cost of carbon taxation would be negligible. We conclude that the welfare costs of taxing carbon emissions in developing countries depend more on other distortions than on the country’s own carbon emissions.
This chapter describes how to specify, solve, and draw policy lessons from small, two-sector, general equilibrium models of open, developing economies.' In the last two decades, changes in the external environment and economic policies have been instrumental in determining the performance of these economies. The relationship between external shocks and policy responses is complex; this chapter provides a starting point for its analysis.Two-sector models provide a good starting point because of the nature of the external shocks faced by these countries and the policy responses they elicit. These models capture the essential mechanisms by which external shocks and economic policies ripple through the economy. By and large, the shocks have involved the external sector: terms-of-trade shocks, such as the fourfold increase in the price of oil in 1973-74 or the decline in primary commodity prices in the mid-1980s; or cutbacks in foreign capital inflows. The policy responses most commonly proposed (usually by international agencies) have also been targeted at the external sector: (1) depreciating the real exchange rate to adjust to an adverse terms-of-trade shock or to a cutback in foreign borrowing and (2) reducing distortionary taxes (some of which are trade taxes) to enhance economic efficiency and make the economy more competitive in world markets.A "minimalist" model that captures the shocks and policies mentioned should therefore emphasize the external sector of the economy. Moreover, many of the problems -and solutions -are related to the relationship between the external sector and the rest of the economy. The model thus 1 This chapter is derived extensively from two previous papers: Devarajan, Lewis, and Robinson (1990) and Go and Sinko (1993). Simple ~e n e r a l Equilibrium Modeling 157should have at least two productive sectors: one producing tradable goods and the other producing non-tradables. If an economy produces only traded goods, concepts like real devaluation are meaningless. Such a country will not be able to affect its international competitiveness since all of its domestic prices are determined by world prices. If a country produced only nontraded goods, it would have been immune to most of the shocks reverberating around the world economy since 1973. Within the category of tradable goods, it is also useful to distinguish importables and exports. Such a characterization enables us to look at terms-of-trade shocks as well as the impact of policy instruments such as import tariffs and export subsidies. The minimalist model that incorporates these features, while small, captures a rich array of issues. We can examine the impact of an increase in the price of oil (or other import andlor export prices). In addition, this model enables us to look at the use of trade and fiscal policy instruments: export subsidies, import tariffs, and domestic indirect taxes. The implications of increases or decreases in foreign capital inflows can also be studied with this framework.While the minimalist model captures,...
The Policy Research Working Paper Series disseminates the findings of work in progress to encourage the exchange of ideas about development issues. An objective of the series is to get the findings out quickly, even if the presentations are less than fully polished. The papers carry the names of the authors and should be cited accordingly. The findings, interpretations, and conclusions expressed in this paper are entirely those of the authors. They do not necessarily represent the views of the International Bank for Reconstruction and Development/World Bank and its affiliated organizations, or those of the Executive Directors of the World Bank or the governments they represent.
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