A Framework for Valuing the Employment Consequences of Environmental Regulation

I develop a two sector model in which one sector produces a good that generates pollution, a negative externality. I show that even if it takes time for workers to switch sectors, the optimal tax on the dirty good depends only on the marginal rate of substitution between private consumption of the dirty good and pollution. The time it takes workers to switch sectors and the number of workers near the margin for switching affects the employment response to the optimal tax but not the tax itself. ∗University of Chicago, Department of Economics, 1126 East 59th Street, Chicago, IL, 60637 (e-mail: [email protected]). This research was supported by a grant from the Environmental Protection Agency. The paper was prepared for a conference on the “Employment Effects of Environmental Regulation” on October 26, 2012. I am grateful to Ivan Werning and conference participants for comments. The views expressed in this paper reflect that of the author and not necessarily of the Environmental Protection Agency.