Please Tax My Carbon

Todd Litman's picture
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North American (United States and Canada) policy generally favors low energy prices, with low taxes, production subsidies and other types of energy industry support. As a result, North Americans are energy rich: an average worker can purchase more fuel per hour of labor than almost any other time or place. In response North Americans have developed energy intensive lifestyles and industrial practices, have failed to implement many energy conservation practices common in other parts of the world, and consume more energy per capita than most other times and places.

Cheap energy policies may once have been sensible to stimulate heavy industry development such as domestic vehicle production, but cheap energy policies and resulting high rates of energy consumption now impose increasing economic, social and environmental harms. People who are energy rich are becoming poor in other ways: high energy consumption impoverishes consumers, transfers wealth from North America to foreign energy producers, and exacerbates problems such as traffic congestion and accidents, and creates environmental risks such as climate change. Since cheap energy results in automobile dependent transport systems and sprawled land use patterns, it increases congestion, accidents, consumer costs and greenspace loss, reduces mobility options for non-drivers, and increases health problems from inadequate physical activity. 

To avoid these problems, North America needs innovative solutions that increase the economy's overall energy efficiency, that is, which extract more productivity and consumer welfare per joule of energy consumed. Such solutions do exist. This paper describes one of the best, a tax reform called carbon taxes.

Carbon taxes are taxes based on fossil fuel carbon content, and therefore a tax on carbon dioxide emissions (www.carbontax.org). They differ from current North American fuel excise taxes, which are applied primarily to motor vehicle fuels as a way to finance highways and other transportation services. Because carbon taxes are intended primarily to internalize the environmental costs of fuel consumption and encourage energy conservation, there is no particular requirement for how their revenues should be used. Revenues can finance energy conservation programs, provide new public services, or be used to reduce taxes or provide rebates. If revenues are returned to residents and businesses, resulting in no significant increase to total government income, the taxes are considered revenue neutral, called a tax shift. Many economists advocate tax shifting to help achieve strategic policy objectives: raise taxes on bads, such as pollution emissions, and reduce taxes on goods, such as labor and investments.  

British Columbia's 2008 budget includes the first revenue neutral carbon tax in North America (BC, 2008). It starts 1 July 2008 at $10 per tonne of carbon (2.33¢ per liter of gasoline) and increases $5 per tonne annually for at least four years. Revenues are returned to individuals and businesses through various tax cuts and rebates, including a $100 per resident Climate Action Dividend distributed June 2008, and special rebates for low income households.

This reflects key tax shifting principles (Durning and Bauman, 1998):

  • Broad coverage. The tax applies to all fossil fuels, based on their carbon content. This makes it credible and efficient to administer compared with taxes that vary depending on where or by whom fuel is consumed.
  • Gradual and predictable implementation. The tax will increase gradually and predictably so consumers and businesses can take higher future energy costs into account when making long-term decisions, such as vehicle purchases and building locations.
  • Revenue-neutrality. Revenues generated by the tax are returned to individuals and businesses through reductions in other taxes.
  • Protection for lower-income households. Tax reductions and rebates are structured to aid lower-income households and other disadvantaged groups.   

Although often regarded as a cost increase, revenue-neutral carbon taxes actually offer households a new opportunity to save money by conserving energy. For example, a two person household that receives $200 in tax reductions and rebates saves overall if it purchases less than the equivalent of about 8,000 liters (2,100 gallons) of vehicle and heating fuel annually. The more energy they conserve the more money they save. As the tax rate increases in the future, so will rebates and therefore savings per unit of fuel conserved.

Carbon taxes provide more total benefits than most other energy conservation strategies. Cap-and-trade programs generally focus primarily on industrial emissions, and some building emissions, due to administrative convenience (it is easier to contract with a few large emitters than numerous small companies and households). Incentives to purchase fuel efficient vehicles, such as CAFE standards and feebates, can significantly reduce motor vehicle energy consumption but provide few other benefits, and by reducing per-mile vehicle operating costs they tend to increase total vehicle traffic which increases problems such as congestion, roadway costs, accidents and sprawl. Improving travel options, such as public transit and nonmotorized travel, individually provide relatively modest energy savings, but by reducing total vehicle traffic provide many additional benefits. By increasing vehicle efficiency and reducing traffic, carbon taxes provide maximum benefits, as illustrated below.

Effectiveness and Scope of Energy Conservation Strategies

Cap-and-trade programs support industrial and some building energy conservation programs, but have limited application to transportation energy conservation. LEED Building standards support building energy conservation. Efficient vehicle incentives can significantly reduce transport energy consumption but provide few other benefits. Improving travel options, such as public transit and nonmotorized travel, provides modest energy savings but many additional benefits. Carbon taxes are effective at supporting virtually all forms of energy conservation, and provide many additional benefits.

Like most new taxes, the carbon tax has been widely criticized. Much of this criticism is technically incorrect or exaggerated. Some of the common criticisms are discussed below.

Ineffective

Critics claim that fuel taxes do little to reduce energy consumption. They are wrong. The Price Elasticity of gasoline is typically about -0.3 in the short run and -0.7 in the long run, meaning that a 10% price increase reduces fuel consumption 3% in a year or two, and 7% in five to ten years. While the current carbon tax rate is modest, increasing current fuel prices only a few percent, it provides a foundation for larger impacts if needed in the future. It is therefore ideal as a way to encourage long-term energy conservation and emission reductions.

Unnecessary

Critics point out that recent fuel price increases are overwhelming the carbon tax. Since the tax was announced, regular gasoline prices have increased about 40¢ (from $1.10 to nearly $1.50), about 16 times larger than the initial carbon tax. However, the recent fuel price increases are unlikely to continue, in fact, prices may decline somewhat during the next few years, which could encourage consumers to return to inefficient energy decisions. The British Columbia carbon tax encourages consumers to continue making energy efficient choices regardless of short-term price fluctuations.

Inescapable

Critics sometimes claim that, because we live in an energy intensive society the carbon tax is inescapable and therefore a burden to consumers and businesses. They portray consumers as passive victims of energy dependency and resulting energy costs. In fact, people and businesses make frequent decisions that affect their energy consumption, and given suitable incentives they can conserve energy reduce their energy costs. For most of the last century real energy costs have declined, causing consumers, businesses and communities to choose more energy intensive options. For example, consumers and businesses have chosen larger vehicles than they usually need, and land use patterns have become more dispersed, making the economy energy inefficient. Changing these patterns can result in substantial energy conservation and financial savings.

Unfair

Critics often claim that a carbon tax is unfair to people who must consume more than average fuel due to their job, location or lifestyle, such as truck drivers, residents or rural and northern communities, and recreational motor boaters. However, in virtually all cases these consumers can significantly increase their energy efficiency particularly over the long term, by insulating homes, choosing more fuel efficient vehicles, and reducing mileage.

Regressive

Critics claim that this tax will hurt low income households. They are wrong. Although fuel price increases may seem regressive (a dollar tax imposes a greater burden on poor than wealthy people), lower-income people purchase much less fuel than higher income people. Low-income households will benefit overall from a tax shift that returns revenues as per capita rebates, progressive tax reductions, or new services that benefit lower-income people. Described differently, although fuel taxes are regressive, representing a greater portion of household expenditures for lower-income than higher-income households, targeted tax reductions, cash rebates and improved services for poor people tend to be extremely progressive with respect to income, so revenue-neutral carbon taxes can be extremely progressive overall. This tax is even more progressive if implemented with energy conservation policies and programs, such as improved walking and cycling conditions, increased ridesharing and public transit services, smart growth land use policies, and home insulating programs.

Economically Harmful

Critics claim that fuel taxes harm businesses and the economy. They are wrong. Although it is true that increased fuel costs tend to be economically harmful, revenue-neutral tax shifts are an economic transfer that can help the economy by encouraging efficiency and keeping more money within the regional economy. For example, if this fuel tax convinces average households to consume $100 less fuel that is imported from outside the region and spend the savings at local restaurants or to hire a carpenter fix up their home, this increases regional economic activity. As long as revenues are returned to consumers or spent on economically beneficial public investments such as improvements to transportation or education, high fuel taxes benefit the economy overall.

Described differently, consumers end up paying about the same per capita for fuel in both low- and high-tax jurisdictions, but with low tax rates more of this money ends up in the pockets of distant energy producers, while with high tax rates more of this money ends up in public coffers.

Most economically successful countries in the world have much higher fuel taxes than in North America, even with a significant carbon tax. Perhaps the best example are the countries of Norway and the United Kingdom, which during the 1980s and 1990s were major petroleum producers and exporters, but both maintained extremely high fuel taxes to encourage domestic energy efficiency by consumers and industries, and finance programs that increase industrial competitiveness, such as national healthcare programs, which reduce the financial burden on businesses. As a result, now that their energy supplies are running out and fuel prices are increasing, both countries have energy efficient economies, with low per capita petroleum consumption and economic development policies that emphasize diverse, high technology industries that are not vulnerable to future energy price increases.   

British Columbia's carbon tax shows true leadership in recognizing a problem and providing a real solution. If other North American jurisdictions follow, its impacts and benefits will be huge.  

For More Information

BC (2008), B.C.'s Revenue-neutral Carbon Tax: Backgrounder, British Columbia Ministry of Finance (www.bcbudget.gov.bc.ca); at www.bcbudget.gov.bc.ca/2008/backgrounders/backgrounder_carbon_tax.htm.

BLS, Consumer Expenditure Survey, Bureau of Labor Statistics (www.bls.gov), annual reports.

 CTC (2008), What is a Carbon Tax? Carbon Tax Center (www.carbontax.org) CBO (2008), Effects of Gasoline Prices on Driving Behavior and Vehicle Markets, Congressional Budget Office (www.cbo.gov); at www.cbo.gov/ftpdocs/88xx/doc8893/01-14-GasolinePrices.pdf.  

CERA (2006), Gasoline and the American People, Cambridge Energy Research Associates (www2.cera.com/gasoline).

Eric de Place (2008), Tax-and-Dividend, Sightline Institute (www.sightline.org); at http://daily.sightline.org/daily_score/archive/2008/06/18/tax-and-dividend.

Eric de Place (2008), BC's Carbon Tax Shift, Sightline Institute (www.sightline.org); at www.sightline.org/daily_score/archive/2008/02/19/bc-s-carbon-tax-shift 

Alan Durning and Yoram Bauman (1998), Tax Shift, Sightline Institurte (www.sightline.org); at www.sightline.org/publications/books/tax-shift/tax. Jonathan E. Hughes, Christopher R. Knittel and Daniel Sperling (2006), Evidence of a Shift in the Short-Run Price Elasticity of Gasoline Demand, National Bureau of Economic Research, Working Paper No. 12530 (http://papers.nber.org/papers/W12530).

Todd Litman (2005), "Efficient Vehicles Versus Efficient Transportation: Comparing Transportation Energy Conservation Strategies," Transport Policy, Vol. 12, No. 2, March 2005, pp. 121-129; at www.vtpi.org/cafe.pdf.  

Todd Litman (2007), Smart Emission Reduction Strategies, VTPI (www.vtpi.org); at www.vtpi.org/ster.pdf.

Todd Litman (2007), Appropriate Response To Rising Fuel Prices, VTPI (www.vtpi.org); at www.vtpi.org/fuelprice.pdf.  

Todd Litman (2008), Transportation Elasticities: How Prices and Other Factors Affect Travel Behavior, Victoria Transport Policy Institute (www.vtpi.org); at www.vtpi.org/elasticities.pdf.

Todd Litman (2008),  Carbon Taxes: Evaluating Impacts, Benefits and Criticisms, Victoria Transport Policy Institute (www.vtpi.org); at www.vtpi.org/carbontax.pdf.  

Gerhard Metschies (2005), International Fuel Prices, German Agency for Technical Cooperation (www.internationalfuelprices.com).

 VTPI (2008), Online TDM Encyclopedia, Victoria Transport Policy Institute (www.vtpi.org/tdm).  

Clark Williams Derry (2008), Braking News: Gas Consumption Goes Into Reverse, Sightline Institute (www.sightline.org); at www.sightline.org/publications/reports/braking-news-gas-consumption-goes-into-reverse.

 

 

 

Todd Litman is the executive director of the Victoria Transport Policy Institute.

Comments

Comments

Carbon Tax Shift

Hear, hear!! A carbon tax shift is the most effective way of countering global warming, without the bureaucracy required by cap-and-trade.

But the problem is political. The politicians support cap-and-trade because they will not go near the idea of a new tax.

That is why we should always call it a "carbon tax shift" to emphasize that it is not an added tax.

Todd, I think you have all the facts right, but the rhetoric is not quite right. You repeatedly call it a "carbon tax," and the fact that it is a revenue-neutral tax shift is buried in details of your post.

You would do better politically if you called it a "carbon tax shift" consistently (and never used the term "carbon tax"), and if you emphasized in the first paragraph that it is revenue-neutral and is not an increase in taxes.

Charles Siegel

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