Energy taxation in a small, open economy: Social efficiency gains versus industrial concerns

Welfare analyses of energy taxes typically show that systems with uniform rates perform better than differentiated systems, especially if revenue can be recycled by cutting taxes that are more distortionary. However, in practical policy, efficiency gains must be traded off against industrial concerns. Presumably, energy-dependent industries of small, open economies will suffer relatively more if taxed. This computable general equilibrium (CGE) study examines the social costs of compensating the energy-intensive export industries in Norway for their profit losses from imposing the same electricity tax on all industries. The costs are surprisingly modest. This is explained by the role of the Nordic electricity market, which is still limited enough to respond to national energy tax reforms. Thus, an electricity price reduction partly neutralizes the direct impact of the tax on profits. In addition, we examine the effects of different compensation schemes and find significantly lower compensation costs when the scheme is designed to release productivity gains.