Pigouvian Taxation of Energy for Flow and Stock Externalities and Strategic, Noncompetitive Energy Pricing

The literature on energy and carbon taxes is by and large concerned about the derivation of (globally) efficient strategies. In contrast, this paper considers the dynamic interactions between cartelized energy suppliers and a consumers′ government that collectively taxes energy carriers for Pigouvian motives. Two different kinds of external costs are associated with energy consumption: flow (e.g., acid rain) and stock externalities (e.g., global warming). The dynamic interactions between a consumers′ government and a producers′ cartel are modeled as a differential game with a subgame perfect Nash equilibrium in linear and nonlinear Markov strategies. The major implications are that the nonlinear solutions are Pareto-inferior to the linear strategies and energy suppliers may preempt energy taxation and thereby may raise the price at front; however, this effect diminishes over time because the producers′ price declines, while taxes increase.