Pigovian Tax

Published Jan 10, 2023

Definition of Pigovian Tax

A Pigovian tax is a tax that is imposed on a market activity that generates negative externalities. That means it is a tax on activities that have a negative impact on society, such as pollution or over-consumption. The purpose of the tax is to internalize the negative externalities by making the activities that cause them more expensive. This should discourage people from engaging in those activities in the first place.

Pigovian taxes are named after the British economist Arthur C. Pigou.

Example

Let’s look at the example of a carbon tax. This tax is imposed on the burning of fossil fuels, such as coal and oil. The burning of these fuels releases carbon dioxide into the atmosphere, which contributes to global warming. Thus, the government imposes a tax on the burning of these fuels to discourage people from using them and to reduce the amount of carbon dioxide in the atmosphere.

Why Pigovian Taxes Matter

Pigovian taxes are an important tool for governments to reduce negative externalities and protect the environment. By making activities that generate negative externalities more expensive, they can discourage people from engaging in them and thus reduce their negative impact on society.

In addition to that, the revenue generated by these taxes can be used to fund environmental protection programs or other public services that benefit society and the environment.