Carbon pricing is finally enjoying some momentum, despite setbacks

­Carbon pricing is finally enjoying some momentum, despite setbacks

Carbon pricing is becoming increasingly popular among policymakers – and the general public too, write Stefano Carattini and Steffen Kallbekken

Picture from original article.

Picture from original article.

Carbon pricing has been implemented by more than 50 jurisdictions worldwide, and currently covers more than 20 per cent of global greenhouse gas emissions according to the most recent World Bank report on the subject. The jurisdictions pricing carbon include both developed and developing countries. South Africa approved a carbon tax earlier this year. The most recent addition to this growing global club is Canada, which implemented a federal carbon tax in April this year. The Canadian carbon tax illustrates how carbon taxes can be designed to become popular. The tax revenues will be returned to Canadian citizens at a flat rate per capita, ensuring it benefits the poor the most. Germany is currently considering its own carbon tax, to complement an emissions trading scheme covering carbon emissions from large emitters across Europe. In the corporate world, more than 600 companies price carbon internally, reducing their carbon footprint at the minimum cost and preparing for a world with stringent climate policy. Internal carbon pricing has also been implemented by universities, such as Yale.

Actual developments stand in stark contrast to the claims from commentators, including in very influential outlets, that pricing carbon is politically “impossible”. These commentators seem to base their reasoning on the French protests around the Yellow Vest movement. The link is appropriate, as the Yellow Vest movement emerged as a reaction to a gas tax, with very frequent and important tax hikes. However, the Yellow Vest movement should be used as a reminder of the consequences of poor policy design, not as proof of the “impossibility” of pricing carbon.

Polls show that sometime after British Columbia implemented a revenue-neutral carbon tax in 2008, and after it survived calls to repeal it, most voters started supporting it. A stylized fact in environmental policy is that incentive taxes tend to be more popular after implementation than before. Beforehand, people tend to overestimate drawbacks and underestimate benefits. With a garbage tax, for instance, they do not expect people to change behaviour and recycle more. When they see the tax working – and the revenues going back to them in case of revenue-neutral reforms – they change their beliefs. For this reason, trial periods have been implemented, for instance in the case of congestion charges.

The concerns of the Yellow Vest movement should, however, not be dismissed. They made salient what years of research on public support for environmental policy had been saying: public support for a carbon tax crucially depends on its design. The French protests are an opportunity to think carefully about policy design. One of the main concerns over carbon taxes is the effect on purchasing power – and especially the purchasing power of low-income households. On average, low-income households in developed countries spend a higher share of their income on energy consumption than the rest of the population. In France, purchasing power decreased with every tax hike, as the revenues were intended for the general budget and other programs. Following important tax cuts, which benefited mainly high incomes, the French government needed a new source of tax revenue.

But a carbon tax does not have to be regressive. It can be made progressive. Think about the Canadian federal tax, which follows the “carbon fee and dividend” design. All revenues collected from the carbon tax are returned in equal shares to each Canadian resident, as a dividend. While low-income households in relative terms spend a larger share of their income on energy consumption, in absolute dollars they spend less than the rest of the population. Since they spend less than average, the dividend will exceed the increase in spending. Hence, low-income households will be financially better off with the carbon tax. The dividend is also a very transparent way to redistribute revenues. People know where the money goes – it goes back to the Canadian people. A government may also provide the first dividend before the carbon tax is implemented rather than rebating afterwards. This would help cash-constrained people, with little cost for the government, which can borrow at a low rate.

A recent statement by prominent economists, including 27 Nobel laureates, supported this carbon tax design. Hundreds of economists have subsequently signed the statement. This important endorsement reflects a realisation among economists that political feasibility matters. A transparent and equal dividend is preferable to slightly more efficient, but harder to communicate, options, such as using carbon tax revenues to reduce taxes on labour and stimulate the economy. This statement came at an important time in American politics, when Congress discusses the Energy Innovation and Carbon Dividend Act, a bipartisan carbon fee and dividend bill championed by the Citizens’ Climate Lobby.

In the United States, the politics of carbon pricing may look more challenging than elsewhere. The American political context is very peculiar as far as climate policy is concerned. Hence, one should be careful drawing inference from the American context. Indeed, in most countries around the world, there is broad support for climate policy. Where there is more disagreement, it is in the choice of the policy instrument. But even in the United States, calls for implementing carbon pricing are intensifying. California and the Northeast already have emissions trading schemes. Washington state held two ballots on a carbon tax, in 2016 and 2018. Both initiatives were rejected, coming short of 8 per cent and 6 per cent of yes-votes, respectively.

Early research shows that the first initiative, I-732, was rejected, at the margin, by environmentalists. Many environmentalists were disappointed by the design of I-732. It was designed to be revenue neutral. The initiative would have kept overall purchasing power constant, shifting the tax burden to polluters by taxing carbon and reducing other taxes such as the sales tax. Environmental groups such as the Sierra Club preferred to have revenues earmarked for environmental and community projects. Hence, they designed I-1631. I-1631, however, did not convince some of the voters who supported I-732. I-1631 would have funded several projects, but it was not clear to all voters how they were selected and where exactly the money would have ultimately gone.

While the general public is generally in favour of earmarking revenues for environmental purposes, capitalising this generic support in practice may require a fair share of political wisdom in defining the exact spending targets. Furthermore, oil companies spent more than 30 millions opposing I-1631, via a campaign emphasising the cost to households of a non-revenue neutral reform. Only a few months after the rejection of I-1631, a new carbon tax is now on the floor of the Washington state senate. In short, in Washington state, the debate on carbon pricing is more about how than whether.

A carbon fee and dividend may be the right solution to find support among both environmentalists and more conservative voters. This type of design is progressive, addressing concerns about distributional effects coming from the political left. However, since all revenues are redistributed back to households in the form of a check, the dividend, it does not leave funds to sponsor environmental projects. Hence, it is necessary for economists to leverage almost 30 years of carbon taxes to convince voters that carbon taxes reduce greenhouse gas emissions, just by changing relative prices. Using revenues for environmental purposes would provide additional emissions reductions, but having stronger bipartisan support to increase tax rates over time may provide a better deal over the long run. This is a trade-off that needs to be dealt with applying a great deal of pragmatism. On the conservative side, an important upside of the carbon fee and dividend model is that it may not require people to believe in anthropogenic climate change and to be willing to pay more for climate mitigation. According to the Citizens’ Climate Lobby, more than 50 per cent of American households would be financially better off with the Energy Innovation and Carbon Dividend Act. The implication is that academics should spend more time communicating climate policy than communicating climate change.

Largely thanks to Congresswoman Ocasio-Cortez and Senator Markey, climate policy is now back at the centre of the American political debate. While proponents of the Green New Deal correctly argue that carbon pricing alone cannot address the long list of societal and environmental issues targeted by the Green New Deal, they tend to agree that carbon pricing can be an important part of the package. There are benefits, indeed, of carbon pricing that no other climate policy can provide. Not only is carbon pricing the least costly way to decrease greenhouse gas emissions, but it can also facilitate international policy coordination. This feature should resonate particularly strongly among environmentalists. Carbon pricing can not only help reduce emissions domestically, but also push other countries to do their part.

In a recent article, we surveyed 5,000 people in Australia, India, South Africa, the United Kingdom, and the United States, and found relatively strong support for a global carbon price. A global carbon price could be achieved in two ways. Countries could either agree to be subject to a global carbon tax, with revenues managed by an international organisation, or could agree to set the same tax rate and implement domestic carbon taxes in a coordinated fashion. The second option would be easier to implement. Countries would not need to agree on the use of revenues and would maintain their fiscal sovereignty.

Building on the 20 per cent of global greenhouse gas emissions covered by carbon pricing — and moving towards a scenario where most countries price carbon — require engaged policymakers and grassroots organisations, including environmentalists, to stand united in lobbying for carbon pricing in their country and to seek a compromise on its design. Countries that already have carbon pricing could act as a club and start working towards harmonising carbon pricing, while leveraging multilateral institutions to spread the adoption of carbon pricing in other countries. The United States would be in a very good position to do so, if it had a fair nationwide carbon price in the first place.

­This article originally appeared in The London School of Economics and Political Science Business Review. The original post can be accessed here.

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About the Authors

Stefano Carattini is a visiting fellow at LSE’s Grantham Research Institute on Climate Change and the Environment, and an assistant professor in the department of economics at Andrew Young School of Policy Studies, Georgia State University, Atlanta, US.

Steffen Kallbekken is research director of the Center for International Climate Research (CICERO), Oslo, Norway.

The Carbon Pricing Leadership Coalition brings together leaders from government, private sector, academia, and civil society to expand the use of carbon pricing policies.

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