Taxes and subsidies in a polluting and politically powerful industry

This paper analyzes the effect of political pressure on taxes and subsidies in a polluting industry. Two innovations are offered: (a) The model of the analysis is simple; it is based on profit maximization, the participation constraint, and that politicians are willingly influenced. No additional structure is assumed. (b) It is shown that the conventional conclusion that, as pollution controls, taxes and subsidies are equivalent, does not hold in the presence of political pressure - Both in short-run and in the long-run. In addition, production is generally not efficient in a political equilibrium and costs are not minimized.