Pricing Carbon

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However, Canada is expected to hold national elections in October and the opposition Conservatives have vowed to repeal the tax if they take power.

In Britain, the birthplace of the Industrial Revolution, greenhouse gas emissions have fallen to their lowest level since One key factor: A carbon tax that has prompted electric utilities to switch away from coal. But, because of a glut of permits on the market, carbon prices in Europe remained low for years and the program has had a relatively muted effect on emissions.

That tax has encouraged electric utilities to rapidly switch from coal to somewhat cleaner natural gas. This is perhaps the clearest example in the world of a carbon tax leading to a significant cut in emissions. With Congress largely gridlocked on climate policy, the main carbon pricing efforts in the United States have unfolded at the state level. In the Northeast, nine states currently participate in the Regional Greenhouse Gas Initiative , a cap-and-trade system that auctions to power plants a steadily dwindling supply of carbon pollution permits. Carbon prices under this system have been fairly modest to date, and it is unclear how much the prices themselves have driven emissions reductions in the region.

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But states have used the money raised by the auctions to invest in efficiency and clean energy programs. California, meanwhile, has enacted its own cap-and-trade program that goes beyond power plants and also covers manufacturers, refineries, and other polluters. State officials are now struggling to tighten the cap so that it drives bigger cuts in future years. There are some signs that carbon pricing could expand further in the states. Virginia and New Jersey are making moves to join the Regional Greenhouse Gas Initiative, and several Northeastern states are planning a similar program for cars and trucks that would put a price on transportation fuels and invest in mass transit, electric buses or other low-carbon solutions.

Since , China has been experimenting with cap-and-trade programs in several pilot cities, including Shanghai and Shenzhen. The country plans to gradually roll out a nationwide cap-and-trade program starting in , with several years of testing before expanding to major sectors like electricity, steel and concrete. If China manages to follow through, it will have created the largest carbon-pricing program in the world.

The Promise and Problems of Pricing Carbon: Theory and Experience

A declining emissions cap would help reduce emissions over time. Every source of emissions subject to the cap for example, power plants or refineries would be required to hold allowances equal to the emissions they produce. Power plant operators could acquire allowances through an auction where they bid for the allowances they need or allocation where they are given a set number of allowances for free.

Once these entities have allowances, they would be able to trade or sell allowances freely among themselves or other eligible market participants. Because the allowances are limited and therefore valuable, those subject to the cap will try to cut their emissions as a way to reduce the number of allowances they have to purchase. The resulting interaction between the demand and supply of allowances in the market determines the price of an allowance also known as the carbon price. With a carbon tax , laws or regulations are enacted that establish a fee per ton of carbon emissions from a sector or the whole economy.

Owners of emissions sources subject to the tax would be required to pay taxes equivalent to the per-ton fee times their total emissions. Those who can cut emissions cost-effectively would reduce their tax payments.

NEA | Carbon Tax

Those subject to the tax would have an incentive to lower their emissions, by transitioning to cleaner energy and using energy more efficiently. A rising carbon tax would help ensure a decline in emissions over time. Hybrid approaches include programs that limit carbon emissions but set bounds on how much the price can vary to prevent prices from dropping too low or rising too high.

Another hybrid approach adjusts the tax to ensure specific emission reduction goals are met. A third hybrid approach could be when a jurisdiction implements a carbon cap-and trade program for some sectors and applies a carbon tax on others. Carbon pricing programs can also work in a complementary manner with other renewable energy and energy efficiency policies, such as renewable electricity standards , energy efficiency standards , and vehicle fuel economy rules.

Gasoline taxes, severance taxes for coal mining and natural gas or oil drilling, or policies that incorporate a social cost of carbon are examples of other ways of indirectly factoring a price on carbon into consumer or business decisions. From an economic perspective, both carbon tax and a cap-and-trade systems function in equivalent ways : one sets a price on emissions which then determines the level of emissions, the other sets the level of emissions, which determines a price for those emissions.

The level of the tax or cap and its rate of increase for a tax or decline for a cap over time drives the degree to which emissions are cut. Designed well, both of these approaches can deliver on the main aim of a robust carbon pricing program, which is to help cut emissions cost-effectively in line with climate and energy goals. However, there may be important policy or political reasons to prefer one or the other in a particular context, such as voter preferences or limits on regulatory or legislative authority.

Both a carbon tax and a cap-and-trade program with auctioned allowances can generate significant revenues. The use of these revenues has important implications for distributional fairness and economic growth. Potential uses of carbon revenues could include one or more of the following:. A program that returns all the revenues directly to taxpayers is called revenue-neutral.

Revenues can be returned in a variety of ways, including through tax cuts or per capita dividends. But emissions dangerous to the environment do not come from carbon alone. Other gases such as methane, nitrous oxide, and hydrofluorocarbons can be exponentially more harmful than fossil fuels. Carbon dioxide accounted for 82 percent of U.

Clearly those gases will also need to be managed if climate change policy is to be successful. Finally, carbon taxes can make economic inequality worse. That can happen because any carbon tax impacts the poorest parts of society most. Consumers and households with lower incomes spend a higher proportion of their incomes on transportation, heating and cooling, and so forth, so as prices rise, these consumers and households will feel the effect much more than high-income consumers and households. The negative impact of taxes on lower-income people is greatest when consumers cannot easily turn to alternatives.

The impact of sugar taxes on the price of soda, for example, could be avoided by consumers who buy other, less sugary drinks. Poorer people, especially, can be trapped because they cannot afford large investments upfront such as fuel-efficient cars or new insulation or solar panels for their homes. Fossil fuel producers know that many of their consumers are trapped, and so they often simply pass along new costs in the form of higher prices charged to consumers.

Proponents of carbon taxes have pushed back, arguing that the poorest people do not have cars and thus would be less affected by the tax. Although public transport may be available in many cities, people who live in spread-out, less urban areas often must drive long distances to get to work. Furthermore, rural people in many areas, like the Midwest, will already face higher energy prices because industries and utilities in those areas are more carbon-intensive and, therefore, will be disproportionately burdened by a carbon tax.

The higher costs imposed on many middle-class people who cannot stop filling their tanks or heating their homes with fossil fuels would exacerbate growing income inequality in the United States. In addition, since most food is transported by trucks, higher transportation costs could increase food prices everywhere, impacting low-income families the most.

Carbon Pricing 101

Dividend payments from a carbon tax would only mitigate, not erase, such inequities. Reformers who worry about equity often promote the idea of returning revenues from caps or taxes to all citizens in the form of rebates or dividends. The most straightforward versions of this approach call for revenues from carbon pricing to be recycled back to the public on an equal per person basis. Attractive as this may seem in the abstract, some concerns are worth exploring. First and foremost, such proposals can be overly reliant on the assumption of rational behavior. Dividend proponents often point to the popularity of Social Security, as a relatively universal social program where everyone benefits and most Americans strongly support the program as a result.

But there are countervailing considerations. For example, some environmentalists have expressed the worry that Americans would spend dividend checks on consumer goods that would waste carbon-intensive energy. Another issue in rebate systems is the cost of administering them. Should program costs be funded by the carbon pricing revenues, or should percent of collected fees be returned to Americans?

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Even if existing government offices are used to manage such refunds, administrative costs would not be inconsequential and would need to be covered in some way. A potentially large expense for the cap and rebate system is the cost of the price floor. A price floor, that is, a minimum price guaranteed through government subsidies, is necessary to ensure that businesses will have a consistent market incentive to invest in projects that will reduce carbon pollution enough that the nation can meet it emissions reduction goals. Normally, the price of a good is based on supply and demand in the market.

However when an artificial price floor is introduced to assure a certain price, as would be required under this policy, then the government must subsidize the difference in price. And costs could rise over time.

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Indeed, to the extent a U. Due to these unknown costs, all types of dividend systems should be implemented on smaller scales in advance of a national roll out and then scaled slowly over time. In light of the challenges and obstacles just explored, the best strategy for pricing fossil fuels in the U.

Support must be mustered to get a new program through Congress. And at the same time, proponents must pay careful attention to issues of policy design and implementation, because environmental policies always face the threat of roll back. Any well-designed carbon pricing policy must be equitable, feasible, and phased in gradually to give all actors time to adapt. This brief recommends a multipronged approach that rolls out in three main stages. The first, preparatory stage must lay the groundwork for carbon pricing in a series of ways:. Why start by regulating coal? According to the U. Energy Information Administration, coal produces 50 percent more carbon emissions than gasoline or diesel.

Considering the importance of this single source, a market-based disincentive on coal should be reinforced with direct controls to assure change across the board. Revenue from this tax should go directly into retraining the coal related work force and supporting new enterprises in coal-producing communities.

In addition, a tax on coal could serve as a pilot program or prototype for an economy-wide carbon tax system. The second stage would involve further capacity building and policy ramp-ups. Each area of activity outlined for phase one should be expanded in this intermediate phase, prior to enacting and implementing economy-wide carbon pricing.

Large-scale implementation would happen in phase three, again with further steps building on each earlier-outlined area of endeavor. Innovations and learning may drive American leaders to prefer one or another approach to carbon pricing in the future, but as I have tried to explain in this memo, preparing for both emissions trading and tax approaches, with various uses for any revenues collected, will put us in the best position to make feasible and equitable choices and adjust as we go along.

Furthermore, a phased in, multipronged approach to carbon pricing would be the most likely to prove fair and practical, yet flexible and increasingly potent. Moving the United States toward joining and even leading the world towards a clean energy future is not impossible. Policies must be comprehensive, however, and cannot address just the supply or the demand side alone.

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