Taxing Fossil Fuels under Speculative Storage

This paper investigates the mechanisms through which environmental taxes on fossil fuelusage can affect the main macroeconomic variables in the short-run. We concentrate on aparticular mechanism: speculative storage. The existence of forward-looking speculators inthe model improves the effectiveness of tax policies in reducing fossil fuel usage. Improvedpolicy effectiveness, however, is costly: it drives inflation and interest rates up, whileimpeding output. Based on this tradeoff, we seek an answer to the question how monetarypolicy should interact with environmental tax policies in our DSGE model of fossil fuelstorage.