stream, may be unrealistic. The observation of such an externality and enforcement of the tax
would be very difficult, if not impossible.
Since the firm can choose both the rotation period and the commercial use percentage, and a
Pigovian subsidy is unrealistic, a single instrument cannot control both choices. An alternative is
to tax the market transactions and suboptimal behavior of which the externality is a symptom.
This section analyzes the case where the clear-cut tax, combined with the licensing fee can
correct the market failure in two general cases: one where the logging firm clear-cuts and
harvests sooner than socially optimal, and one where the it is socially optimal to harvest a forest,
to prevent forest fires for example, but it is not privately optimal. Solutions for the optimal
commercial use percentage and rotation time are presented, then analyzed through comparative
statics to characterize the effects of the two-part tax. Finally, this section solves for the optimal
rates of tax and analyzes the proper application of the tax instrument to forests with different
growth and externality characteristics.
Consider two tax instruments: a flat, lump sum licensing fee (τLS), collected at harvest time8
and a “clear-cut” tax (τCC), levied on the firm’s fraction of commercial use per acre.9 The
number of trees that can be planted on an acre is assumed to be fixed.10 Although not a tax on a
direct market transaction, and therefore having some observation and enforcement issues, the
clear-cut tax is simpler to implement than the Pigovian tax. Enforcing the tax will require a
8 To control for rotation period alone, Englin and Klan (1990) suggest the use of existing tax instruments such as a
property tax, a severance tax, or a yield tax. While these existing, market based instruments are interesting, intuitive
tools that can be used to correct for a sub-optimal rotation period, they do not work in combination with the clear-cut
tax to correct for both commercial use percentage and rotation time.
9 τCC is different from a yield tax levied on the harvest revenue, or a unit tax levied on the timber volume of the
harvest, as discussed in (Englin and Klan (1990), Koskela and Ollikainen, (2001), (2003)), as it is a tax on the
percentage of each forested land unit allocated by the land owner as commercially harvested. Though a graduated
per acre unit tax would work in a similar fashion, the “clear-cut” tax allows the forest planner a flexible way to more
directly address the issue of post harvest forest density.
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