Question

 Suppose one state imposed a Pigouvian tax on smoking, and a neighboring state did not. Explain the economic rationale for their doing so, and also explain what econometric techniques we've discussed that can help you discover that. How would that work?

Answer 1

The Pigouvian tax on smoking will reduce the negative externalities. If one state has imposed Pigouvian tax on smoking than it will reduce their negative externalities and will improve the market conditions because imposition of tax on smoking will reduce the smoking rate among people which will increase social welfare and reduce social cost. The neighboring state will face negative externalities from the smoking which will reduce their social welfare and increase social cost.   

*don’t know which techniques you have discussed but we can use time series data to analyse the effect of taxation on externalities and social cost.