Evaluating Economy-Wide Benefit Cost Analyses

V. Kerry Smith, Min Qiang Zhao

NBER Working Paper No. 22769
Issued in October 2016
NBER Program(s):Environment and Energy Economics

This paper examines a new strategy for evaluating whether the size of a new environmental regulation requires that benefit cost analyses consider general equilibrium effects. Size in the context refers to both the magnitude and distribution of cost increases across sectors and the benefits attributed to the rules. Rogerson’s [2008] static, general equilibrium model describing how tax policy affects time allocations between market and non-market activities is extended to include air pollution as a non-separable element in the representative household’s preferences. The paper makes three contributions to the literature. First, the calibrated parameters of the model are used to evaluate how the introduction of air quality, as a non-separable, external influence on the household’s non-market activities, affects the conventional explanation for the labor market transition in developed economies. Second, all current CGE assessments of conventional environmental policies in the U.S. and Europe ignore the feedback effects of policies for emissions and behavior. This analysis demonstrates their importance by using an amended version of the Rogerson model to compare calibrations with and without these feedback effects. Finally, a calibrated model is used to gauge the plausibility of the benefit estimates from EPA’s partial equilibrium (PE) assessment of the recent Clean Power Plan. This analysis finds the upper limit of the PE estimates for the annual ancillary benefits of the plan (due to its effects on conventional air pollutants) is implausibly large.

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Document Object Identifier (DOI): 10.3386/w22769

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