Optimal carbon taxation and horizontal equity: A welfare-theoretic approach with application to German household data

We develop a model of optimal taxation and redistribution under an ambitious climate target. take into account vertical income differences, but also explicitly capture horizontal equity concerns by considering heterogeneous energy efficiencies. By deriving first- second-best rules for policy instruments including carbon labor taxes, transfers subsidies, we investigate analytically how inequality is considered in the welfare maximizing tax structure. calibrate to German household data 30 percent emission reduction goal show that revenues via household-specific first-best policy. Under plausible assumptions on aversion, energy-intensive households should be about five times higher than energy-efficient households. Equal per-capita do not require observe households’ efficiency type, increase equity-weighted mitigation costs around 5 compared first-best. Mitigation less, if government can implement uniform clean subsidy or tax-subsidy schemes consumption target Horizontal may therefore constitute new rationale policies differentiated taxes.