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Getting the rate right

26 November 2013

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Frank Jotzo is Director of The Centre for Climate Economics and Policy at Crawford School, and director of the School’s Resources, Environment and Development program. He currently teaches the graduate courses Domestic Climate Change Economics and Policy and Issues in Development and Environment.

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The political chances of rolling out a carbon tax rate that’s actually high enough to make significant emission cuts would be better if the tax raised less money, according to ANU experts.

In a commentary in Nature Climate Change, Dr Jack Pezzey of the Fenner School of Environment and Society and Dr Frank Jotzo of Crawford School of Public Policy argue that an important way to get a carbon tax politically accepted and working more effectively is by charging only for emissions above fixed thresholds.

“Carbon pricing – a carbon (emissions) tax or (carbon) emissions trading scheme – is strongly recommended by the IMF, World Bank and OECD as the cheapest way overall to cut the emissions causing climate change. Almost every serious economist agrees, and other countries are preparing carbon pricing schemes,” says Pezzey.

“And a tax sets a stable price, not the yo-yoing prices seen on trading markets in recent years. Also, it doesn’t undermine other carbon control efforts like cap-and-trade does.”

Despite these advantages, he says politics is against a tax and for trading.

“As noted recently by the OECD’s head, politicians shy away from introducing new taxes. An important problem is that a tax rate high enough to cut emissions significantly and charged in the normal way would raise large revenues, causing large shifts in tax burdens.

“This would be good economically, because it allows governments to recycle revenues as cuts in other taxes, but it makes a high carbon tax much harder to get accepted politically in the first place,” says Pezzey.

Pezzey and Jotzo’s research shows that in 11 existing carbon tax schemes, mostly in Europe, the revenue ranges from only 0.2 to 4.1 per cent of central government tax revenue. Emitters included in the schemes typically pay tax on all their emissions, but overall tax rates are low, and many carbon-intensive industry sectors face even lower tax rates or are completely excluded.

“Regrettably, such special treatment happens mostly because well-organised industries lobby powerfully, if indirectly, against the revenues a high tax would raise,” says Pezzey.

“And revenues could be huge. We calculate that a tax of US$50 per tonne of carbon dioxide, needed worldwide to cut emissions as much as scientists recommend, would raise revenue equalling about 12 per cent of current central tax revenue in the USA, or 75 per cent in China, if charged on all emissions.

“This revenue problem doesn’t happen with carbon trading, because governments typically give most of the tradable permits away instead of selling them, at least at first. Tax thresholds can mimic this. If only emissions above thresholds are charged, less revenue is raised, but emitters still face the full tax rate on each extra tonne of emissions.”

But thresholds need not stop a carbon tax being part of overall tax reform, explains Jotzo.

“Revenue from carbon pricing is needed from the start, especially to help poorer people facing higher energy prices. This can be done by coupling a carbon tax with income tax cuts or rises in welfare payments. Later, thresholds can be phased down, giving governments more money to cut business taxes or invest in infrastructure.”

“Australia has led the way here. The initial phase of our carbon pricing scheme works like a carbon tax with thresholds, and money is recycled to lower income households. Other countries – from China to South Africa and Mexico – are preparing carbon taxes. They may emulate aspects of the Australian scheme, even if our government repeals it.”

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