Paul Romer writes,

Greg Mankiw correctly points out that the tax in Prop 87 is not a Pigovian tax–that is, a tax on oil for the purpose of reducing oil consumption to socially optimal levels. However, the revenues from Prop 87 are intended to subsidize the research and development of alternative energy. Because the marginal private benefit of R&D is less than the marginal social benefit, the market does not allocate enough resources to R&D on alternative fuels. Appropriate government subsidies could encourage a socially optimal level of R&D. Does this mean Prop 87 is in fact a Pigovian subsidy? Should Mankiw and the other members of his Pigou Club support such a policy?

Read the whole thing. But this issue of taxes and subsidies in energy markets makes my head hurt. Are the incentives to pursue alternative energy really too small? My personal opinion is that the subsidies given to corn-based ethanol, for example, are probably already above and beyond any social “optimum.” Once you open up the can of worms of these taxes and subsidies, a lot of rent-seeking crawls out.

Thanks to reader Nick Schulz for the pointer.