Postprint version. Published in Journal of Environmental Economics and Management, Volume 48, Issue 3, November 1, 2004, pages 1050-1077. Copyright © 2004 Elsevier Inc. All rights reserved. The definitive version is available at http://dx.doi.org/10.1016/j.jeem.2003.11.007.
NOTE: At the time of publication, the author Stephen Hamilton was not yet affiliated with Cal Poly.
This paper investigates privately and socially optimal patterns of economic development in a two-sector endogenous growth model with clean and dirty goods. We consider a second-best fiscal policy framework in which distortionary taxes jointly influence economic growth and environmental quality. In this policy setting, three conditions produce an Environmental Kuznets Curve (EKC): (i) dirty output is bounded; (ii) clean output grows endogenously; and (iii) growth in the dirty sector reduces growth in the clean sector. These conditions do not arise with a consumption externality, but can emerge with a production externality. Endogenous labor supply implications are also investigated. Although not necessary for producing an EKC, endogenous labor supply provides additional linkages that produce an EKC under circumstances in which it would otherwise not appear.