On the Political Economy of Green Tax Reforms

This paper offers a political economy model of green tax reforms in which the use of the revenue from the ecotax is an integrated part. We use the model to explain why and when a link between an ecotax and cuts in other non-environmental taxes can be expected. In our model, green tax swaps arise because a producer lobby group, even if the use of the revenue does not affect profits per se, takes an interest in the allocation of revenue from the ecotax. The reason being that the lobby group uses the allocation of the revenue to reduce the “price” of other political favours that it cares a lot about. To this end, the lobby group acts in the best interest of the voters, and to the extent that the voters prefer tax cuts to more public spending, the endogenously generated reform involves income tax cuts on labour income. The paper also analyses the environmental impact of various budgetary procedures and discusses to what extent the revenue from an ecotax can be used to create a constituency in favour of the environmental protection.