Archive for the ‘Mankiw’ Category

Can Pigovian taxes be Coasean bargains? – The case of climate negotiations

July 14th, 2008 1 comment

David Zetland’s libertarian-environmental blog, Aguanomics, has recently been carrying on some excellent discussions on resource and environmental economics, with interlocutors like Bob Murphy, Gene Callahan and others.  In the context of two recent posts on government approaches to climate change, I commented on one thread (An Ounce of Prevention…) that

As for the setting the level of carbon taxes, you and Gene keep assuming that there is a global government that sets taxes in a vacuum. Instead, we have a multi-player game, where any politically sustainably prices are set at levels that the chief emitters are willing to agree to.

This is analogous to ranchers, lobstermen or shrimpers deciding to close a range or fishery. No single one of them is setting a price.

On an earlier thread (Pigouvian Libertarians), I noted to the effect that:

Bob, the standard objections to Pigovian taxes don`t apply to climate change, as there is no single government administering the world. Rather, we are engaged in multi-player negotiations as to how to regulate a commons.  The taxes (or other schemes) that individual governments may impose will ultimately be coordinated, and much more resemble a Coasean trade among nations with respect to a shared resource.

David has kindly made this point the subject of a new post:  How to Set a Carbon Tax.

Allow me to elaborate my point.  A C Pigou, is often trotted out by supporters of government economic regulation, for the proposition that governments should regulate or impose taxes in order to force economic actors to internalize the “external costs” of their actions (costs that are imposed on others outside of that transaction without their consent).  This use of Pigou is a bit unfair, as Pigou himself noted that taxing authorities would always lack the information needed to determine the correct tax, but nevertheless the perception that externalities are ubiquitous has helped to justify a wide range of governmental regulatory interventions.

Other objections to Pigou can of course be raised, as Ronald Coase prominently did when he argued that, when trade in an externality is possible and there are no transaction costs, bargaining will lead to an efficient outcome regardless of the initial distribution of property rights.  Pigou and those using him did not consider the real world dynamics of self-help among economic actors, and many ignored Pigou’s acknowledgment that governments are seldom positioned to calculate external costs.  Coase noted that because transaction costs are NOT zero, many bargains would not be reachable, so that the initial distribution of property rights would affect ultimate outcomes in resource allocation.  Coase properly turned the focus of the debate over “externalities” towards a focus on the use of bargaining between parties to accommodate differences in personal objectives, and to fruitful discussions of how property rights and bargains are defined and enforced and whether information and transaction costs can be lowered.  Austrians have further criticisms of Pigou and Coase, but those can be set aside for the moment.

In ongoing discussions over at Aguanomics, Bob Murphy and others have trotted out that standard Coasean attacks on the proposals by economists (such as Robert Nordhaus and other members of Gregory Mankiw’s “Pigovian Club”) for carbon taxes, i.e., that government can’t know at what level to set carbon taxes, that such carbon taxes will prevent private transactions among parties that might fully address climate concerns at less costs, etc.

In the context of this discussion, I ask that people step back from the theoretical and observe the pragmatic – that we are in the midst of a multi-decade multinational negotiation of a GLOBAL resource that no one nation controls, in which there are no private property rights or common legal systems and in which transaction costs for private transactions are enormous and swamp individual economic benefits that may be achieved by them, and that in this context, our governments are essentially our negotiating proxies who can more efficiently negotiate for us and come to terms with others than can any private entities or groups.  Given these circumstances, even though our governments are all subject to domestic rent-seeking pressures, because no effective approach to climate change can be reached without the voluntary agreement of all major emitters, is it not the case that the discussions that our governments conduct – including the possibility of coordinated Pigovian taxes at the national level for implementation purposes – ARE efforts at Coasean bargaining?

Any thoughts?

Why top demagogues (Jim Hansen, Florida Power, RAND, Exxon, AEI, Margo Thorning, major economists, George Will) prefer rebated carbon taxes

June 27th, 2008 2 comments

[Note to first-time readers: the title is tongue-in-cheek.]

I have previously blogged on libertarian, non-state approaches to climate change; allow me to use this post to pull together for diligent readers various recent sources of opinion and information on carbon taxes – which are much more transparent, easier to implement and, if rebated, are much more likely to both be ethically fairer to citizens (and thus more poltically sustainable) and involve much less pork than cap and trade policy proposals:

–  Dr. James (“PublicTrials”) Hansen “Carbon Tax and 100% Dividend” proposal (dated June 6, 2008) (be sure to check out his many lucid posts on scientific aspects of climate change as well):

“Carbon tax and 100% dividend” is spurred by the recent “carbon cap” discussion of Peter Barnes and others. Principles must be crystal clear and adhered to rigorously. A tax on coal, oil and gas is simple. It can be collected at the first point of sale within the country or at the last (e.g., at the gas pump), but it can be collected easily and reliably. … The entire carbon tax should be returned to the public, with a monthly deposit to their
bank accounts ….

The worst thing about the present inadequate political approach [cap and trade] is that it will generate public backlash. Taxes will increase, with no apparent benefit. The reaction would likely delay effective emission reductions, so as to practically guarantee that climate would pass tipping points with devastating consequences for nature and humanity.

Carbon tax and 100% dividend, on the contrary, will be a breath of fresh air, a boon and boom for the economy. The tax is progressive, the poorest benefitting most, with profligate energy users forced to pay for their excesses. …

Special interests and their lobbyists … will fight carbon tax and 100% dividend tooth and nail. They want to determine who gets your tax money in the usual Washington way, Congress allocating money program-by-program, substituting their judgment for that of the market place. …  Helping Washington figure out how to spend your money is a very lucrative business.

I note that Hansen has drawn on Peter Barnes, who has long advocated the “Sky Trust” concept, which asserts that citizens are the owners of the atmospheric commons and involves the state in charging and collecting revenues.  Barnes has more recently backed similar proposals, such as Hansen’s “Carbon Tax and 100% Dividend” and the “Cap and Dividend” approach floated last winter by James Royce and Matt Riddle.

Spin analyst George Lakoff has recently examined and compared the moral and cognitive footings of the Warner-Lieberman-style cap and and trade and the Cap and Dividend approaches in “Comparing Climate Proposals: A Case Study in Cognitive Policy”

–  Lewis Hay, III, Chairman and CEO of FPL Group, Inc. – speech to the 2008 Florida Summit on Global Climate Change in Miami (June 25, 2008):

[It is] an undeniable reality … that global climate change is real, that human activity is one of the causes, and that we must take action to slow, stop, and reverse the emission of greenhouse gases into the Earth’s atmosphere. …
The United States has been debating climate change at least since the first congressional hearings on the topic were held in the mid-1980s by a little-known Representative from Tennessee named Al Gore. More than 20 years later, it is time for the country to take meaningful action. Every day we delay, another 18 million tons of CO2 are released into the atmosphere, most of which will remain there for close to a century. And with every year of inaction, the carbon reductions needed to deal successfully with climate change become larger and harder to achieve.

There are still a few global warming skeptics left in the world – often big emitters of CO2 – who continue to hope that the science is wrong and advocate taking little or no action toward reducing carbon. They want to keep freely emitting CO2 like there is no tomorrow. We cannot let these people have their way, or there might not be a tomorrow.

So how do we go about reducing the amount of carbon that our economy pumps into the atmosphere? … In the process of producing various goods and services – including electricity – carbon dioxide is released with potentially huge costs on society. But the producers and consumers of goods and services don’t pay those costs. They are external to the transaction, which is to say that society pays them. The goal of public policy toward climate change must be to push those costs back onto the parties responsible for carbon emissions. In short, we must “put a price” on carbon, which will create powerful incentives to emit less of it.

Will that price impose an undue burden on the U.S. economy? The global warming skeptics say yes, but I disagree. If we do nothing to reduce the amount of CO2 pouring into the atmosphere, we are not avoiding the cost. We are simply pushing both the cost associated with the growing consequences of global warming and the future cost of CO2 reductions down the road, onto our children and grandchildren. And if we do take action, I am confident the cost will be far lower than projected. America’s economy is driven by a fierce entrepreneurial spirit. Tell a capitalist there’s money to be made in finding cost-effective CO2 reductions, and watch the market burst with cost-effective solutions.

Now I happen to believe that the simplest and most effective way to start putting a price on carbon is with a continuously escalating fee – or a “tax” as the big carbon emitters like to call it. Under a carbon fee that starts modestly and rises steadily over time, companies will find it more and more expensive to use dirty fuels. And if there’s one way to get the attention of America’s CEOs and their boards of directors, it’s to hit them in the bottom line. Equally important, if there’s one way to get Americans to consume less high-carbon energy, it’s to steadily raise the price of goods and services produced with high-carbon fuels. Eventually, everyone will embrace conservation and switch to low-carbon energy alternatives. …

Under any cap-and-trade program that would give away most of the allowances to emit carbon based on historical emissions, the biggest emitters – the very same companies that have seriously harmed our environment and done nothing to reduce their carbon footprint – could reap unearned windfall profits, just as has happened in parts of Europe. To put it bluntly: They would be paid to pollute, turning cap-and-trade into what I call “cap-and-evade.” …

When carbon carries a cost, power companies will also work a lot harder to clean up their fossil fuel fleets. … Of course, the real gains are to be had by shutting down old, inefficient coal plants across the country. Those dinosaurs, which have operated way beyond their intended useful life, account for more than 480 million tons of the CO2 pumped into the atmosphere every year and should be taken offline. And if carbon is priced appropriately, they will be.

I refuse to believe that we are powerless to change the future. On the contrary, I believe that through commitment, effort and intelligence, we will not only come up with the right policy response to climate change, but that our innovation-driven economy will find the best technological solution to climate change – one that curbs emissions even as it controls costs. Some of us in the electric power industry are ready to lead the charge into a clean energy future. To those who stubbornly cling to a carbon-based past that cannot last, we kindly ask that you step out of the way.

Keith Crane, senior economist and James Bartis, senior policy researcher at the RAND Corporation, On Carbon Dioxide, a Better Alternative (Washington Post, November 29, 2007):

The only effective way to begin reducing greenhouse gas emissions and slow global climate change is to make it more expensive to emit carbon dioxide. Unless businesses and consumers pay a price for carbon dioxide, neither will make the investments in technology and changes in energy use needed to dramatically reduce emissions.

Most of the climate change legislation currently before Congress proposes a complicated “cap-and-trade” system. This would set a limit on emissions below current levels and then allocate permits to pollute that could be bought and sold. The alternative would be to impose a direct tax on carbon dioxide emissions. …

The attraction of cap and trade for its supporters is that the cap sets a limit on emissions of carbon dioxide. But it’s difficult to get the limit right. The cap may be set too high to induce firms to make the large investments needed to reduce emissions. Or it may be set so low that costs skyrocket and political support to combat climate change falters.

The major disadvantage to cap and trade is that the price tag for reaching the target is highly uncertain. In contrast, a tax on emissions provides businesses and consumers with certainty about costs, while leaving the size of the reduction less certain. …

Instead, we suggest a tax on carbon dioxide in which all the proceeds collected by the government would be returned to Americans each year when they file income taxes. In contrast to current congressional proposals for cap and trade, a tax on carbon dioxide refunded directly to individuals would cut emissions while cushioning the impact on the pocketbooks of American families. ...

A carbon dioxide tax with refund is fair because the people responsible for the most emissions would pay the most. The tax would also be progressive. Many Americans with lower incomes would find the refund would more than defray the higher costs of gasoline and electric power.

A tax is simple and can be phased in quickly. It encourages individuals and businesses to make long-term decisions with confidence, rather than trying to guess what the future price of permits will be. With a tax and refund, consumers would only pay the extra costs associated with carbon abatement measures.

A carbon dioxide tax with refund can be implemented easily. It can be collected at a few key links in the supply chain: refineries, power plants or pipelines. …

A carbon dioxide tax can be easily adjusted as lower-cost means of reducing emissions are tapped and new technologies become available to tackle more difficult sources. The tax could be started low, but with a clear schedule of increases so that individuals, local governments and businesses will begin now to make the changes and investments required to dramatically reduce emissions within 15 years. …

U.S. consumers and industry need to reduce carbon dioxide emissions. A refunded carbon dioxide tax is the best way to achieve reductions. It is simple, good for the planet, and imposes the least additional costs on the American economy as compared to any other policy alternative. Most importantly it can be crafted to ease the burden on families and protect industries from unfair competition in the global marketplace.

–  Ken Cohen, vice-president for public affairs, ExxonMobil“ExxonMobil’s top executives on climate-change policy” (February 14, 2007):

[T]here are two debates that one can be participating in right now. One is: is climate change real? What is the cause? Call it the blame game or whatever you want. And the other discussion is: what we do about it?

We prefer to be involved in the second discussion, which is what do we do about climate change – what policies make sense to both produce the energy which the world absolutely has to have and do it in a way that starts us on a path to reduce emissions associated with the production and use of energy. …

Some have said for instance that we need to stabilise CO2 emissions at 550 parts per million. But that is more of a political conclusion than a scientific conclusion. It may be that we’ll learn that 550 ppm is not an aggressive enough target. It may be that science will tell us that the target needs to be something lower than 550 ppm. …

So yes, the policies need to be adjusted. Or conversely, it could be that the anthropogenic contribution can be mitigated somehow by sinks or what have you as we learn more. So, what we are trying to convey is: we know enough now to say that we need to be on a path to start addressing anthropogenic emissions. But we also need to keep the science effort going and we need to keep in mind the economic impacts of the policies. …

We are believers in the market system as the most efficient allocator of resources. We believe for example that markets do a much better job of picking winners and losers on the technology side than governments. So we believe that when we design policies we need to harness the power of the market system as best as we can within the policy that we are designing. … We are not saying, ‘laissez-faire’, just let the market operate. …

Politicians know this very well, one of the elements on our first principles is not political attractiveness. You don’t hear much discussion for example about a carbon tax. Yet most economists who look at this issue say that the most effective way to address carbon emissions would be with a carbon tax.

In fact, from an efficiency standpoint, from spreading the cost of carbon across the economy in an efficient and uniform and predictable way, as a way to maximize the use of markets, as someone who studied economics, yes I think that a carbon tax ought to be looked at with equal force as the other options.

Now, as we said before, the devil is in the details and there are a number of questions. Whether it is going to be a regressive tax? What would the rate of the tax be and making sure you don’t exclude people from it; what is the revenue going to be used for; are we going to take out another regressive tax? Or are we going to take that money and use it for some other purpose? So there are major issues that would need to be addressed, but from an economist’s standpoint and in fact, this is the favored option.

Ken Green, Steven Hayward and Kevin Hassett of AEI (The American Enterprise Institute for Public Policy Research ), “Climate Change: Caps vs. Taxes” (June 2007):

Most economists believe a carbon tax (a tax on the quantity of CO2 emitted when using energy) would be a superior policy alternative to an emissions-trading regime. In fact, the irony is that there is a broad consensus in favor of a carbon tax everywhere except on Capitol Hill, where the “T word” is anathema. Former vice president Al Gore supports the concept, as does James Connaughton, head of the White House Council on Environmental Quality during the George W. Bush administration. Lester Brown of the Earth Policy Institute supports such an initiative, but so does Paul Anderson, the CEO of Duke Energy. Crossing the two disciplines most relevant to the discussion of climate policy— science and economics—both NASA scientist James Hansen and Harvard University economist N. Gregory Mankiw give the thumbs up to a carbon tax swap.

There are many reasons for preferring a revenue neutral carbon tax regime (in which taxes are placed on the carbon emissions of fuel use, with revenues used to reduce other taxes) to emissions trading. Among them are: [the following are paragraph headings only]:

–        Effectiveness and Efficiency
–        Incentive Creation
–        Less Corruption
–        Elimination of Superfluous Regulations
–        Price-Stabilization 
–        Adjustability and Certainty
–        Preexisting Collection Mechanisms
–        Keeping Revenue In-Country 
–        Mitigation of General Economic Damages

A cap-and-trade approach to controlling GHG emissions would be highly problematic. A lack of international binding authority would render enforcement nearly impossible, while the incentives for cheating would be extremely high. The upfront costs of creating institutions to administer trading are significant and likely to produce entrenched bureaucracies that clamor for ever-tighter controls on carbon emissions. …

A program of carbon-centered tax reform, by contrast, lacks most of the negative attributes of cap-and-trade, and could convey significant benefits unrelated to GHG reductions or avoidance of potential climate harms, making this a no-regrets policy. A tax swap would create economy-wide incentives for energy efficiency and lower carbon energy, and by raising the price of energy would also reduce energy use. At the same time, revenues generated would allow the mitigation of the economic impact of higher energy prices, both on the general economy and on the lower-income earners who might be disproportionately affected by such a change. Carbon taxes would be more difficult to avoid, and existing institutions quite adept at tax collection could step up immediately.  Revenues would remain in-country, removing international incentives for cheating or insincere participation in carbon-reduction programs. Most of these effects would remain beneficial even if science should determine that reducing GHG emissions has only a negligible effect on mitigating global warming. …

Coal-based energy prices would be affected more strongly, which is to be expected in any plan genuinely intended to reduce GHG emissions. A number of possible mechanisms are available to refund the revenues raised by this tax. On net, these tools could significantly reduce the economic costs of the tax and quite possibly provide economic benefits.

Margo Thorning, Senior Vice President and Chief Economist at the American Council for Capital Formation (November 1, 2007 interview on E&E TV):

Margo Thorning: I think Senator Lieberman and Warner are to be commended for their efforts to reduce greenhouse gas emissions, because I think we’re all united that that’s a goal we need to put a lot of resources into.

Q: One of the bill’s ideas is to set up a financial board of sorts that would oversee the new greenhouse gas market. What’s your take on setting up a board of regulators?

Margo Thorning: I think the idea of expecting regulators to know what the price of carbon should be is probably not very well grounded. It does serve as a backstop in that I assume if prices got so high that producers and households were experiencing severe economic pain they could say, well, just go ahead and emit. But it creates uncertainty, because for someone trying to invest in new equipment, if they don’t know what the price of carbon will be, that adds to the risk of the investment. That’s the problem with a cap-and-trade system and that’s what’s happening in Europe. Investors don’t know what the price of carbon will be from one month to the next or one year to the next and it’s been very volatile. So that makes the cost of capital higher, investment more uncertain, and produces less investment. An advantage of a carbon tax, if you want to impose some sort of penalty on carbon use, is that an investor knows, given the projected say set of increases in carbon prices from one year to the next, he knows what the carbon price will be and he can factor that in to what kind of capital equipment he buys, what sort of transport fleet he puts in place, and it provides more certainty. And it also, a carbon tax, provides a stream of revenue for the government to spend on new technology or to pay for offsetting the burden on low income individuals of higher energy prrevenue-neutralices.

Q:So, if you were given the opportunity to sort of write your own proposal of how the U.S. should reduce emissions and not hurt itself economically, you’d go with the carbon tax?

Margo Thorning: I would go with the carbon tax and more incentives for new technology development. And I would change the U.S. tax code, because we have the slowest depreciation allowances for new energy investment of 12 countries that we compared recently. We have very high capital costs for new investment because depreciation is so slow and our effective tax rate is very high, because our corporate tax rate is the highest in the industrial world. So our companies are disadvantaged vis-à-vis our trading partners because of our tax system.

Q: So, if a cap and trade is not the way to go as you’re saying, why has the business community come out in support of a cap and trade?

Margo Thorning: Well, a significant portion of the business community would prefer a carbon tax and there’s beginning to be more discussion about that. So I think one reason some in the business community have supported a cap and trade is they expect to make money on it. They’ve maybe made emission reductions or expect to be able to make emission reductions. They expect to be winners. On the other hand, new companies or companies that are expanding that need more credits will be losers. So the winners under a cap-and-trade system, as is for example in Europe, the big electric utilities have been winners because they’ve been able to pass forward to consumers the price of the carbon credit even though they were given those credits by the government. So people who expect to make money on it naturally are supportive.

– major economists:

• Terry Dinan of the Congressional Budget Office’s Microeconomic Studies Division – “Policy Options for Reducing CO2 Emissions” (outside reviewers were Billy Pizer (Resources for the Future) and Martin Weitzman (Harvard)(Feb. 2008):

Given the gradual nature of climate change, the uncertainty that exists about the cost of reducing emissions, and the potential variability of the cost of meeting a particular cap on emissions at different points in time, a tax could offer significant advantages. If policymakers chose to specify a long-term target for cutting emissions, a tax could be set at a rate that could meet that target at a lower cost than a comparable cap. In addition, if policymakers set the tax rate at a level that reflected the expected benefits of reducing a ton of emissions (which would rise over time), a tax would keep the costs of emission reductions in balance with the anticipated benefits, whereas a cap would not. …

CBO draws the following conclusions:
A tax on emissions would be the most efficient incentive-based option for reducing emissions and could be relatively easy to implement.

Analysts generally conclude that a tax would be a more efficient method of reducing CO2 emissions than an inflexible cap. The efficiency advantage of a tax stems from the contrast between the long-term cumulative nature of climate change and the short-term sensitivity of the cost of emission reductions. Climate change results from the buildup of CO2 in the atmosphere over several decades; emissions in any given year are only a small portion of that total. As a result, limiting climate change would require making substantial reductions in those emissions over many years, but ensuring that any particular limit was met in any particular year would result in little, if any, additional benefit (avoided damage). In contrast, the cost of cutting emissions by a particular amount in a given year could vary significantly depending on a host of factors, including the weather, disruptions in energy markets, the level of economic activity, and the availability of new low-carbon technologies (such as improvements in wind-power technology).

Relative to a cap-and-trade program with prespecified emission limits each year, a steadily rising tax could better accommodate cost fluctuations while simultaneously achieving a long-term target for emissions. Such a tax would provide firms with an incentive to undertake more emission reductions when the cost of doing so was relatively low and allow them to reduce emissions less when the cost of doing so was particularly high. In contrast, an inflexible cap-and-trade program would require that annual caps were met regardless of the cost, thereby failing to take advantage of low-cost opportunities to cut more emissions than were required by the cap and failing to provide firms with leeway in years when costs were higher.

The efficiency advantage of a tax over an inflexible cap depends on how likely it is that actual costs will differ from what policymakers anticipated when they set the level of the cap. Given the uncertainties involved, such differences are likely to be large—and, therefore, analysts generally conclude that the efficiency advantage of a tax is likely to be quite large. Specifically, available research suggests that in the near term, the net benefits (benefits minus costs) of a tax could be roughly five times greater than the net benefits of an inflexible cap. Put another way, a given long-term emission-reduction target could be met by a tax at a fraction of the cost of an inflexible cap-and-trade program. …

Administering an “upstream” tax or cap-and-trade program for CO2 emissions would involve taxing or regulating the suppliers of fossil fuels—such as coal producers, petroleum refiners, and natural gas processors. Compared with a “downstream” design, which would tax or regulate users of fossil fuels, an upstream approach would have two administrative advantages. It would involve regulating a limited number of entities, and it would not require firms to monitor actual emissions. Rather, each firm’s tax payment or allowance requirement could be based on the carbon content of its fuel and the amount it sold.

An upstream tax may be somewhat easier to implement than an upstream cap-and-trade program because many of the entities that would be covered by either policy are already subject to excise taxes. A CO2 tax could build on that existing structure. …

With harmonized taxes, lax monitoring or enforcement by any one country could reduce the incentives for emission reductions in that country. But with linked cap and-trade programs, laxity in one area could undermine the integrity of allowances throughout the entire system. …

A tax would have significantly lower start-up costs than a cap-and-trade program with grandfathering provided that policymakers did not decide to grant exemptions based on historical production or emissions data. Further, implementing a tax would not require the government to set up a process for auctioning allowances.

• CLIMATE CHANGE: Expert Opinion on the Economics of Policy Options to Address Climate Change, US GAO (Government Accounting Office) (May 2008)

• Greg Mankiw, “One Answer to Global Warming: A New Tax” (September 16, 2007) (Mankiw also keeps a list of other economists who are in his pro-tax “Pigou Club”, for which the anti-statist “No Pigou Club” is a useful counter-tonic):

Using a Pigovian tax to address global warming is also an old idea. It was proposed as far back as 1992 by Martin S. Feldstein on the editorial page of The Wall Street Journal. Once chief economist to Ronald Reagan ….

Those vying for elected office, however, are reluctant to sign on to this agenda. Their political consultants are no fans of taxes, Pigovian or otherwise. Republican consultants advise using the word “tax” only if followed immediately by the word “cut.” Democratic consultants recommend the word “tax” be followed by “on the rich.”

Yet this natural aversion to carbon taxes can be overcome if the revenue from the tax is used to reduce other taxes. By itself, a carbon tax would raise the tax burden on anyone who drives a car or uses electricity produced with fossil fuels, which means just about everybody. Some might fear this would be particularly hard on the poor and middle class.

But Gilbert Metcalf, a professor of economics at Tufts, has shown how revenue from a carbon tax could be used to reduce payroll taxes in a way that would leave the distribution of total tax burden approximately unchanged. …
The case for a carbon tax looks even stronger after an examination of the other options on the table. … [T]he history of cap-and-trade systems suggests that the allowances would probably be handed out to power companies and other carbon emitters, which would then be free to use them or sell them at market prices. In this case, the prices of energy products would rise as they would under a carbon tax, but the government would collect no revenue to reduce other taxes and compensate consumers.

The international dimension of the problem also suggests the superiority of a carbon tax over cap-and-trade.

Robert J. Shapiro, chairman of Sonecon, LLC, “Addressing Climate Change Without Impairing the U.S. Economy: The Economics and Environmental Science of Combining a Carbon-Based Tax and Tax Relief” (June 2008):

This study examines one such approach: Apply a tax or charge to fuels based on their carbon content, at the levels required to reduce emissions sufficiently to move to a path that over time would stabilize GHG concentrations in the atmosphere at sustainable levels; and use most of the revenues to reduce other taxes for people and businesses. This strategy would change the relative price of different forms of energy based on their carbon content, so that people and businesses have strong incentives to shift to alternative and less carbon-intensive fuels, and more energy-efficient technologies. The consequent economic burden on individuals and businesses would be largely offset by reductions in payroll taxes or in their effective burden, increasing the public’s willingness to accept a carbon-based tax.

Our analysis found that this strategy can reduce GHG emissions in the United States to levels consistent with substantially lowering the risks and threats of climate change, without slowing economic growth or reducing gains in people’s incomes to a significant degree, or imposing a regressive burden on low- and moderate-income Americans. …

Many economists support this approach to climate change, because it would directly and predictably raise the relative price of goods and services based on their carbon intensity, and so directly encourage consumers to prefer less carbon-intensive fuels, and products and businesses to adopt or develop less carbon or energy-intensive materials, technologies, production processes and fuels. Economists and governance experts also note that a carbon tax would not create the new price volatilities, administrative burdens, and large opportunities for evasion and fraud that could characterize a cap-and-trade program. By setting a predictable price for carbon emissions, it also creates clear and known incentives to develop and deploy more climate-friendly technologies and fuels.

Critics argue that it would raise costs and prices, and would dampen economic growth. They further note that no one favors higher taxes or the economic distortions they can cause, and consequently voters will resist paying a substantial new tax simply to avert unknown, adverse effects decades from now. We propose to address these shortcomings by returning the revenues from a carbon-based tax to households and businesses through other forms of tax relief, so that economic growth and the incomes of most households would be much less affected.

This carbon-based tax policy design should be preferable economically and politically to top-down regulation or cap-and-trade programs. To begin, traditional regulation and cap-and-trade programs treat a plant or industry’s initial carbon emissions as effectively “free,” up to the point of the regulatory ceiling or cap, while a carbon-based tax extracts a cost for emissions from the first part per million. In addition to the economic costs of introducing new volatility in energy prices, cap-and-trade programs and regulatory caps would impose other administrative and monitoring costs on consumers and businesses that would be generally comparable to a carbon-based tax, only in less obvious ways and in many cases with no additional revenues that could be rebated to offset their effects. … [C]onsumers and businesses also will end up paying the billions of additional dollars required to administer, monitor and enforce a cap and trade or regulatory system. … Moreover, much as voters would likely oppose significant new, climate-related taxes without offsetting tax relief, they will likely resist climate change regulation or a cap-and-trade program when they recognize the actual costs. …

Using the NEMS modeling system, we test the proposition that applying a new tax package on energy sources based on their carbon content, and using 90 percent of the revenues to reduce payroll taxes or their equivalent could bring down projected CO2 emissions to a path that should stabilize their atmospheric concentrations at levels safe for the global climate, and without materially affecting most people’s incomes or the economy’s capacity to grow and create jobs. 

• others, as summarized by The Wall Street Journal(Feb. 9, 2007),

George Will (as previously blogged)

Comment to Bob Murphy on whether "Cap and Trade" is a "market solution"

June 5th, 2008 1 comment

I copy below comments I made on June 11 (Tokyo time) on Bob Murphy‘s June 4 blog post, Cap and Trade Is Not a “Market Solution”, that have apparently been held up for moderator approval (perhaps because my three links triggered the blog’s spam defenses?):

Bob, I thank you for posting your piece from IER, which has stimulated a relatively even-tempered and productive discussion.

But allow me to express a little disappointment.  Even as I agree fully with the gist of your post (the largely self-evident and unsurprising point that politicians prefer, as an alternative the more honest, open and politically less-palatable approach of direct Pigouvian taxes of the type supported by a wide range of mainstream economists, to address the concerns of scientists, economists, business leaders and others about man’s contribution to ongoing climate change by dressing up such taxes as a “market approach” involving a cap and trade program), I think that:

(1) you unfairly conclude that, since it will be government that will be implicitly pricing carbon emissions, such pricing “won’t reflect genuine economic scarcity” at all, when Austrian approaches do not deny that lack of property rights will result in economic actors ignoring external costs, but simply indicate the government pricing of resources can only imperfectly reflect economic factors;

(2) you’ve gone to a bit of unjustified rhetorical excess with your statements that:

“[t]his is no more a “market price” than if the government decided to sell people permits giving them permission to sneeze”:  rather, it’s more like the government trying to price grazing rights, resources extraction rights or other user fees on “public lands”– yes, such prices are not market prices (and are perhaps more likely to be underpriced rather than overpriced), but that does not mean that they do not represent or at all reflect valuable resources.

“Cap and trade is not a market-based solution” – while not a true market solution, a cap and trade approach is clearly one that makes use of markets.

– “Cap and trade … can therefore be justly viewed as a tax, stealthy or otherwise, on energy – the lifeblood of our economy” – this not only overbroad, as it would only tax certain types of energy, and overdramatic, it completely ignores the point that certain activities (a wide array not limited to combustion of fossil fuels, including release of other GHGs) are perceived as adversely affecting (now and in the continuing future) many within the country as a result of externalities involving an open-access and unowned and unmanaged commons, which is precisely what expressly motivates (actually or allegedly) so many – including many in your profession – to support Pigouvian approaches;

(3)  surprisingly, you failed to take the opportunity to add to the discussion by informing your readers of Austrian concerns, including the following:

– the calculation problem;

– whether, as you note it posting here, there is any reasonable basis to “trust governments around the world to implement the scheme ‘properly'” (by exploring problems with rent-seeking and bureaucratic incentives);

– whether it is desirable for the government to presume that it should act as the owner of the atmosphere in creating emissions rights (as opposed to citizens generally or long-standing/homesteading users of fossil fuels), and the related ethical issue of creating rights to emit that cut off those who may be harmed from any direct remedy (such as a share of the proceeds of the sale of rights); and

– the underlying institutional problem of lack of clear or enforceable property rights (for which past interferences by government have some responsibility); and

– whether growing concerns (and private responses) regarding the shared global issue (affecting nations with different circumstances and legal systems than ours) of increasing GHG emissions might be addressed less expensively and more rapidly by voluntary actions and national and international litigation rather than by coordinated action by various governments and implemented by individual nations.

None of these points is easily addressed, but they would help to provide a Austrian framework that may be useful to your readers. 

(4)  Finally, it is disappointing that you completely failed to take on any of your mainstream colleagues (such as those in Gregg Mankiw’sPigou Club” who support either carbon taxes or cap and trade approaches. 

I understand that you’ve got a paper in the works addressing Nordhaus, but he’s hardly the only one writing specifically on climate change; I hope you will also be looking at Marty Weitzman at Harvard, Richard Tol and a few others noted here and here: