Wednesday, July 11, 2007

Carbon Tax part 1million

I understand why politicians favor cap and trade over carbon taxes, one word explains it all: tax. While I think ultimately a cap and trade system could be efficient it is unlikely. For a cap and trade system to be efficient, i.e. to accurately price carbon, carbon emissions permits would need to be auctioned off. This would as a result provide the federal government with an obscene one-time revenue(probably in the order of a $1 trillion), which, from a public choice perspective is also a boon. That means the government will only have a finite period of time to piss away money raised and dole out favors and subsidies. In all likelihood, a cap and trade system would be a mess, another rent seeking cess pool. I see this for a number of reasons:

1. Perverse incentives: to the extent legislation does not auction tradeable permits but rather allocates permits on the basis of current carbon consumption it provides companies with an incentive to pollute in the near term to elevate the number of permits it receives.

2. Federalism: This has been a problem for the EU where the price of carbon permits has fallen precipitously. Individual EU member states are allowed to dedicate additional permits and as such have been doing so at a frenetic pace to favor their given energy industries. The result of additional permits flooding the market is to diminish the price of carbon, thus defeating the whole purpose.

3. Barring Market Entry: Assuming again that permits are allocated by prior consumption (call it the grandfather method) as opposed to auctions, it would seem that this advantages existing firms at the expense of new entrants. New entrants would have to buy permits in order to pollute, thus incurring a cost that existing companies do not have to bear.

So back to why carbon taxes are troublesome but I think ultimately present a better opportunity from a policy perspective and how I think they could represent good politicking. One of the manners is in which a carbon tax is plain superior to cap and trade is the likelihood that it will survive the political process and have some effect on achieving the stated goal: reducing emissions. There are no similar pitfalls on the front end of the policy process for carbon taxes as allocating too many permits in a cap and trade scenario.

The conservative fear would that carbon taxes would provide additional revenue to the government which legislators could use for graft, pork, or just in general piss away. Not to mention that it would provide a not so subtle manner in which to increase the size of the government. Liberals are probably likely to dislike a carbon tax in the manner that it is regressive. I am not sure that it would be any more regressive than a succesful cap and trade regime, as energy prices would likely be passed on to the consumer. In any case a carbon taxes regressivity is more transparent then the effects of cap and trade. I think both concerns can be effectively addressed at the same time by substituing a carbon tax for the payroll tax on a dollar to dollar basis (Al Gore has proposing to whit).

Addressing the conservative concern regarding bigger government- First, payroll taxes are dedicated to financing social security and medicare. To the extent a carbon tax serves as a ersatz financing mechanism increasing the scope of the goverment would be an irrelevant concern. Second, Given that a carbon tax is a pigovian tax, to the extent it was succesful, it would thereby reduce long run revenues, ergo, potentially reduce the size of government over time as emissions go down.

Now to the issue of regressivity- For most Americans the only tax they pay is the payroll tax which is regressive as everybody is taxed at the same rate for their first $95 k in income. For lower income Americans that don't own a car for instance (car ownership and income are correlated) a carbon tax would be much more progressive as they would be paying virtually no federal taxes.

In terms of politicking I think this will be more difficult but not untenable. I think the important thing her is to emphasize (1), that a carbon tax structured as described above would not constitute a tax hike, in fact a tax cut for many folks, and (2) emphasize the national security angle. There is much talk about energy independence which is foolhardy but for some reason politically popular. A carbon tax would provide a strong incentive for consumers to consume less carbon and for energy producers to invest more in alternative energies. The latter effect would enhance the divesity of our energy portofolio and thus make our economy less susceptible to shocks induced by unstable governments.


Anti-Everything said...

Xtra I would have to say that I agree with you. My only addition would be that any revenue that is generated from the carbon tax should be specifically allocated either to fund new research for renewable energies or to subsidies existing renewable energies.

Basically this would create a double insentive for industries to utilize renewable energies, aside from wanting to avoid the additional tax it reduces the cost of renewable energies making them more appealing.

Likewise I would also make the argument that the individual carbon tax should be allocated to fund an expansion of public transportation (but allow exceptions for rural residents), thus making the individual tax even more progressive as you stated earlier about the correlation between personal income and automobile ownership.

xtrachromosomeconservative said...

I have to disagree with you on the first point. I think taxing the bejeezus out of carbon should be incentive enough for energy diversification and for renewable energies to become marketable. To the extent that you divert revenues for subsidies as opposed to offsetting payroll taxes you 1: undermine the progressivity of such a substitution and 2: you would provide politicians with a load of money to dole out favors and patronage all in the name of energy independence. That said, I think if any such tax reform bill were to be passed, the year that it was passed the resulting bill would be larded to high hell with pork. That is how things work. What you want to avoid is that becoming a structural feature.

xtrachromosomeconservative said...

"Likewise I would also make the argument that the individual carbon tax should be allocated to fund an expansion of public transportation (but allow exceptions for rural residents)"

I don't think you need to subsidize public transportation at the federal level from carbon tax revenues. If there is a lack of density to support public transportation it will be wasteful and arguably as environmentally unsound as without. If there is a lack of demand/finances urban areas can always employ congestion taxes which would both stimulate the use of public transportation and provide finances for the construction thereof.

I do not see why rural residents should be excepted from carbon taxes. I understand they will be the hardest hit but I think it would be better to offer a rebate than except folks atogether.