The flexibility of response associated with environmental taxes also provides other benefits:
Ongoing incentive to abate. A target-based or technology-based regulation provides no incentive to
abate once the target or technology standard is met. By contrast, environmental taxes provide a
continuous incentive to abate at all levels of emissions, even after significant abatement has already
occurred.
Improves competitiveness of low-emission alternatives. Environmental taxes increase demand for
low-emission alternatives, like public transit and cycling in the case of taxes on automotive fuel. This
results in economies of scale that help to make such alternatives more viable, without a need for direct
subsidies.
Strong incentive to innovate. Taxes increase the cost to a polluter of generating pollution, providing
incentives for firms to develop new innovations and to adopt existing ones. For example, in the example
above, the increased demand for more fuel-efficient and alternatively powered vehicles induced by
fossil fuel taxes provides an important incentive for automakers to develop such vehicles and for
consumers to adopt them. Under regulation-based approaches these incentives disappear once firms
have complied with the regulated standard. Enhanced innovation lowers the cost to society of
addressing environmental challenges in the long run. (This issue is further discussed in the related
OECD brief “Taxation, Innovation and the Environment – A Policy Brief”.)