This paper examines the global, impacts of a policy that internalizes the external costs (related to air pollution damage, excluding climate costs) of electricity generation using a combined energy systems and macroeconomic model. Starting point are estimates of the monetary damage costs for SO2, NOx, and PM per kWh electricity generated, taking into account the fuel type, sulfur content, removal technology, generation efficiency, and population density. Internalizing these externalities implies that clean and advanced technologies increase their share in global electricity production. Particularly, advanced coal power plants, natural gas combined cycles, natural gas fuel cells, wind and biomass technologies gain significant market shares at the expense of traditional coal- and gas-fired plants. Global carbon dioxide emissions are lowered by 3% to 5%. Sulfur dioxide emissions drop significantly below the already low level. The policy increases the costs of electricity production by 0.2 (in 2050) to 1.2EURO cent/kWh (in 2010). Gross domestic product losses are between 0.6% and 1.1%. They are comparatively high during-the initial phase of the policy, pointing to the need for a gradual phasing of the policy. (c) 2006 Published by Elsevier Ltd.