Emission Taxes and Standards in a General Equilibrium with Productivity Dispersion and Abatement

We incorporate emission into a general equilibrium model with rich dispersion in productivity among monopolistically competitive plants. Emission is modeled as a by-product from goods production. An abatement technology is available to the plants for reducing emission. We compare an emission tax with an emission intensity standard. The tax is shown to dominate the standard in welfare for all values of market power if either productivity is sufficiently dispersed or the abatement technology is not effective. On the other hand, if productivity dispersion is small and the abatement technology is effective, there exists sufficiently strong market power with which the standard dominates the tax in welfare. Even in the case where the standard unambiguously induces higher output of dirty goods than the tax, the general equilibrium is necessary for ranking the two policies in welfare.