An alternative approach is to raise taxes on gasoline and other fuels. What is the economic intuition of this policy?

Question

To promote cleaner air, the federal government in the United States enacted tax incentives for purchasing new electric vehicles or clean-fuel vehicles. These were scheduled to be phased out over time.

Answer 1

The tax on gasoline is a product charge. Its intent is to internalize the negative externality of gasoline consumption. Intuitively, such a policy instrument changes relative prices, in this case between gasoline and alternative fuels. As the effective price of gasoline rises with the tax, quantity demanded falls, ceteris paribus. Quantity falls because consumers rationally move away from the relatively expensive good, gasoline, and move toward gasoline substitutes, i.e., alternative fuels.