Revenue Recycling and the Welfare Effects of Road Pricing

This paper explores the interactions between taxes on work-related traffic congestion and pre-existing distortionary taxes in the labor market. A congestion tax raises the overall costs of commuting to work and discourages labor force participation. The resulting welfare loss in the labor market can easily exceed the Pigouvian welfare gain from internalizing the congestion externality. However, if congestion tax revenues are used to reduce labor taxes, the net impact on labor supply is positive, and this can raise the overall welfare gain from the congestion tax by around 100 percent. Nonetheless the optimal congestion tax still equals the Pigouvian tax.
JEL classification R 41; H 21; H 23