Carbon Tax

John Dingell (D-MI), the Dean of the House of Representatives, in today's Washington Post: The Power in the Carbon Tax.

The Congressman argues for a carbon tax but concludes that a cap-and-trade system is the more likely congressional outcome. The democratic presidential candidates apparently favor cap-and-trade over a carbon tax, too. Both observations are unfortunate.

The London Eye

Several criticisms of cap-and-trade vìs-a-vìs the more efficient carbon tax:

  • Implementing a cap-and-trade system is complex and requires the creation of government bureaucracy; a carbon tax is transparent and simple—less likely to be gamed, less likely to invite special interest
  • Cap-and-trade, with a fixed number of permits, makes no provisions for business cycle adjustments
  • Most models of cap-and-trade (those without an auction, for example) do not raise revenue for the government—generating revenue from a Pigovian tax is great, because it can allow the government to lower taxes on productivity
  • Permit prices can be volatile; a carbon tax is stable—price stability will help encourage further investment and innovation in energy-saving endeavors while price volatility in permits will cause price volatility in consumer goods
  • We don't know where the marginal benefit of cutting emissions equals the marginal cost—thus, policymakers are flying blind; finding that equilibrium is easier and safer via a tax that can be gradually raised
  • Cap-and-trade's complexity does not extend well to individuals, households, or even small businesses—most cap-and-trade proposals apply only to certain industries; a carbon tax is universal
  • We can implement a carbon tax today; a cap-and-trade system will take extensive time and effort
  • At its core, a cap-and-trade system is simply a carbon tax with a rebate given to existing polluters—we probably do not want that level of corporate welfare, but if we do, we can incorporate it much more easily into the tax code than into a cap-and-trade system

The largest argument against a carbon tax is that it is regressive. For two reasons, this is nonsense. First, cap-and-trade will just as readily increase consumer prices; the causal mechanism is just less direct. Second, a carbon tax can be rebated to households (or whomever) in the form of lower income taxes, an increase in the EITC, and so on.

Cap-and-trade proponents, affectionately called CATs, argue that these and other issues are rectifiable with additional rules, such as price floors and ceilings, permit auctions, or a Fed-like dynamic adjustment of the permit supply. These changes simply make a cap-and-trade system more like a carbon tax, albeit with layers of legislation and bureaucracy.

Yes, it is a tax. But it is an efficient one.