Taxes Versus Quantities Reassessed

The ongoing debate concerning the ranking of taxes versus cap and trade for climate policy begins with Weitzman’s (1974) seminal slope-based criterion and concludes that taxes dominate quotas. We challenge this conclusion and the intuition behind it. Because technology shocks and pollution stocks are both persistent, a technology shock alters the intercepts of both the marginal damage and abatement cost curves. The ratio of these two intercept shifts is as important as the ratio of slopes in ranking policies. Technology innovations diffuse gradually, strengthening the importance of the ratio of intercept shifts. For plausible parameter combinations, quotas can dominate taxes.