Welfare implications of energy and environmental policies: A general equilibrium approach

Government intervention and implementation of policies can impose a financial and social cost. To achieve a desired goal there could be several different alternative policies or routes, and government would like to choose the one which imposes the least social costs or/and generates greater social benefits. Therefore, applied welfare economics plays a vital role in public decision making.;This paper recasts welfare measure such as equivalent variation, in terms of the prices of factors of production rather than product prices. This is made possible by using duality theory within a general equilibrium framework and by deriving alternative forms of indirect utility functions and expenditure functions in factor prices. Not only we are able to recast existing welfare measures in factor prices, we are able to perform a true cost-benefit analysis of government policies using comparative static analysis of different equilibria and breaking up monetary measure of welfare change such as equivalent variation into its components.;A further advantage of our research is demonstrated by incorporating externalities and public goods in the utility function. It is interesting that under a general equilibrium framework optimal income tax tends to reduce inequalities. Results show that imposition of taxes at socially optimal rates brings a net gain to the society. It was also seen that even though a pollution tax may reduce GDP, it leads to an increase in the welfare of the society if it is imposed at an optimal rate.