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2009-06-11 | Discussion Paper

Are demand elasticities affected by politically determined tax levels? Simultaneous estimates of gasoline demand and price

Sterner, Thomas (2009) "Are demand elasticities affected by politically determined tax levels? Simultaneous estimates of gasoline demand and price " Working Papers in Economics with number 274
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Raising the price of fossil fuels is a key component of any effective policy to deal with climate change. Just how effective such policies are is decided by the price elasticities of demand.

Many papers have studied this without recognizing that not only is there a demand side response: quantities are decided by the price but also there is a reverse causality: the level of consumption affects the political acceptability of the taxes which are the main component of the final price. Thus prices affect consumption and consumption levels, in turn, have an affect on taxes and thus consumer prices. This paper estimates these functions simultaneously to show that there is indeed an effect on the demand elasticity.