CARBON FEE AND DIVIDEND. AN IDEA WHOSE TIME IS COMING.

One simple idea unites almost all environmental economists. It is the importance of pricing external costs – the social and environmental damage caused by greenhouse gas emissions – into markets so that users and consumers are forced to recognise and pay for these costs at the point of use, and not allowed to fall instead on the public at large or on future generations.

Unfortunately a simple implementation of such an approach runs head first into some major political realities. The first is that the level of pricing applied to fossil fuels that would be necessary to reduce emissions quickly or substantially is high, and would be a major economic shock both to many industries and consumers. The industries affected tend to be extremely vocal. The second is the observation that any resulting price increases are most likely to have a  disproportionate impact on poorer consumers.

Just to illustrate the point the European Union’s emissions trading scheme (the ETS) has over long periods produced carbon prices of significantly less than €15 per tonne, in a period when the price at which key technology transformations occur has appeared to be much higher, around €70 or more. Even more significantly it is now widely recognised that the world is so far from reaching safe climate targets that it will have to contemplate large scale sequestration of CO2, ie extraction from the atmosphere, with much higher costs, probably at least €200 per tonne (best available current technology puts this figure at around €600 per tonne).

Failures of the ETS reflect many factors, including industry lobbying and the post crisis recession, but they certainly include weak political will in relation to higher carbon prices.

Carbon Fee and Dividend

Citizens’ Climate Lobby[1] has proposed a carbon fee and dividend approach, in which the whole of of the revenue from a “carbon fee” is returned directly to households as a monthly dividend. The idea is that the majority of households will receive more in dividend than they pay in increased energy costs. This feature protects family budgets, frees households to make independent choices about their energy usage. The higher fuel prices spur innovation in low-carbon products.

The scheme would include border adjustments[2] to protect UK businesses, levying import fees on products imported from countries without a price on carbon, along with rebates to UK industries exporting to those countries. This would discourage businesses from relocating where they can emit more CO2 and incentivise other countries to adopt similar carbon pricing policies.

In fact this idea is part of a family of similar ideas aimed at shifting the burden of taxation towards “green taxes” which seek to redress existing market failures that comprehensively fail to address environmental problems. The counter part to these socially beneficial taxes is a reduction in other forms of taxation, and related concepts include “revenue neutral carbon taxation” and the notion of a carbon “wealth fund”, promoted in an earlier blog on this site by Adam Whitmore.

The case for action

I believe there will be numerous points of detail to get right, whatever new approach is adopted, and I have a few concerns on specifics.

·         Border adjustment taxes look fine in principle, but the administrative detail in their application looks formidable, and they would still have to comply with international rules on trade.

·         CCL propose a gradual increase in tax on carbon, starting from quite low numbers. As discussed in another page on this site, the stark message of the science is that the highest cost attaches to early emissions, since they are both cumulative and bring forward climate milestones.

·         Getting both the macroeconomics and the redistributive consequences right will be challenging, both technically and politically.

·         The idea of a wealth fund, as opposed to immediate revenue neutrality, may be the preferable route.

Despite these concerns I am more and more convinced[3] that more effective action on carbon pricing is essential, and that its combination with a redistributive agenda in domestic politics is probably the best available way to break the current logjams on climate policy.

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[1] Citizens’ Climate Lobby (CCL) is a non-profit, nonpartisan, grassroots advocacy organisation, started in the United States. There are now CCL groups in 40 countries, including the UK network established in 2015.

[2] An idea also previously promoted by Dieter Helm and Cameron Hepburn

[3] https://www.ft.com/content/9a6f8e90-0398-11e9-bf0f-53b8511afd73.  Just a final footnote. 23 December issue – Arun Majumdar in the FT discusses the issue.