I recently got around to reading the 2010 book "Identity Economics: How our Identities Shape our Work, Wages, and Well-Being," by George Akerlof and Rachel Kranton. It is a lay summary of some of the work that Akerlof and Kranton have been doing to incorporate identity and social norms into economic modeling of decision-making. Basically, identity economics modifies a person's utility function - in addition to caring about the normal stuff like consumption, people also care about how their actions conform to the norms of the identity that they belong to. For example, if an employer wanted its workers to work harder or better, standard economic theory would suggest that the employer could modify the contract and include standard economic incentives like merit pay or output-based bonuses, since workers respond to these incentives. Identity economics suggests that the employer alternatively could attempt to create norms for the workplace and encourage workers to identify with those norms, such that the norms themselves and workers' identities would provide incentives for working hard. I might work hard or long hours because I get paid more to do it, or I might do so because I feel like I am an important part of a team, and I believe in the mission of the firm, etc.
After reading it I was struck by the potential application to environmental policy. We want people to reduce their energy consumption, say, by purchasing fuel efficient cars or appliances. Standard economic theory (Pigou) would suggest that we can price the externalities from energy consumption correctly so that everyone's incentives are such that they purchase the right amount of fuel efficient cars and appliances based on financial considerations alone. Looking out my window, it seems pretty obvious that lots of people who buy fuel efficient cars like hybrids and electrics (perhaps most of them) are doing so for other reasons - and perhaps the financial reasons aren't a part of it at all. People buy a hybrid because they are (or want to be seen as) a "green" - this doesn't mean that they're image-obsessed jerks, but it does mean that identity economics seems to play a part in these decisions.
This is somewhat related to the idea of intrinsic motivation, and how it may be crowded out by government policy (some people have studied this in relation to environmental policy). And it's also kind of related to the huge "behavioral nudge" literature on environmental policy (maybe).
But I think there's something innovative about the approach of identity economics that can yield some insights into the optimal design of environmental policy. Someone should write a paper, I decided, incorporating identity economics into a model of optimal externality policy.
Then a few days ago I see that someone basically did. "Environmental Policy When Consumers Value Conformity," by Alistair Ulph and David Ulph, has recently been online-published by JEEM. Their model is one in which consumers value conformity - sticking with the norms of a group. This is similar to the modification of the utility function in identity economics, though (I think) they don't have in their model the endogeneous creation of norms for different identity groups (e.g. the greens and the browns). This yields some striking policy implications, including the fact that the Pigouvian tax could be welfare-reducing.