Developing sustainable markets for renewable energy technologies presents complex challenges. Financial, institutional and informational obstacles impede advancement of these technologies. Tax incentives are often utilized to assist policy makers in dealing with these challenges. Because tax incentives and subsidies generally decrease governmental revenues, understanding their costs and benefits is critical in determining policy choices. For almost 90 years the United States has granted tax incentives, direct subsidies and other support to the energy industry in an effort to enhance U.S. energy supplies. Historically, those incentives targeted only the petroleum industry. Since the late 1970s, however, Congress has enacted incentives to encourage investment in technology and production of alternative and renewable energy sources. Studies evaluating the effectiveness of these tax incentives (both for conventional energy sources and alternative energy technologies) vary in their conclusions. Drawing upon these studies, this paper appraises the use of tax incentives to stimulate alternative fuel sources, renewable and non-renewable. Ultimately, criteria must be developed to assist policy makers in designing tax incentives to promote the development of renewable fuel sources and reduce the U.S. dependence on fossil fuels.Part I of the paper considers the use of tax incentives to promote the fossil fuel industry in its early stages of development. Because these same tax incentives are still in effect today, their continued efficacy is likewise discussed. Part I also addresses the impact of newer tax incentives designed to stimulate fossil fuel production at the margins. Part II describes the use of “environmentally-friendly” tax incentives. This section discusses existing, proposed and expired tax incentives that target renewable and alternative energy sources. The analysis focuses on effectiveness of the various tax incentives and identifying features that correlate positively with the goal of stimulating technology, investment and public acceptance. Part III considers lessons to be learned from the U.S.’ long history with energy tax incentives. The U.S. experience in subsidizing the fossil fuel industries provides the milieu upon which all options for shifting to renewable energy technologies must be considered. In addition, this section critiques the interplay between incentives supporting fossil fuels and incentives encouraging alternative energy sources. The United States needs to formulate a strategy to eliminate fossil fuel subsidies in favor of alternatives. Finally, Part IV concludes with a set of standards that can facilitate the development of tax incentives and provide cost effective alternative and renewable fuels with the greatest return on the government’s investment.
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