Course:ECON371/UBCO2009WT1/GROUP6/Article7

Group 6: Carbon Tax in Canada

Cited Reading:

Summary

Imagine two novel carbon taxes that would actually appeal to Canadians; one that works in conjunction with a lump sum payment and the other that works with a tariff. The lump sum payment or carbon dividend would be $2000 and given to people at the start of the implementation of the carbon tax; between the dividend and the tax, the whole policy would be revenue neutral. Now at the end of the year, those who have been concientious of their carbon footprint, in having paid less carbon tax than their original dividend, have been made better off; while those who were carbon intensive have paid back the dividend in taxes and then more. This tax initiative, with raising taxes and dividends, offers incentives to change behaviour to reduce emissions. The second tax involves putting a levy on large domestic emitters in proportion to their emissions, while imposing a tariff on the corresponding imports equivalent to the foreign factories' emissions. Since North America has cleaner plants, domestic and closer-to-home manufacturers would benefit; and subsequently so too would the Canadian labour market, local farms, and of course the environment.

Analysis

Silver Cameron from the Chronicle Herald proposes two incentive driven policies to change behaviour and ultimately to reduce emissions. Both ideas seem to be part of an attempt to make carbon pricing, or more specifically a carbon tax more palletable to Canadians. A carbon dividend of $2000 to every Canadian at the implementation of a carbon tax would certainly help gain popular support and using a carbon tariff to not only protect but foster domestic jobs at a time of outsourcing and relocations would certainly also make carbon pricing more appealing. Before going on with a brief analysis of these two policies certain observations on the article must be made.

Silver Cameron in the third paragraph makes a quick comment about certain things one could do to reduce carbon emissions and thus not pay as much carbon tax. He suggests eating local food is one such option, however this is not necessarily true. In a 2006 report by New Zealand's Lincoln University local food was shown actually to have larger carbon emissions associated with its production than imported food from thousands of miles away. For dairy products the report found that the UK uses twice as much energy per one tonne of milk solids than New Zealand (NZ), and that's including the energy it took to transport the NZ dairy products. The paper also noted that for lamb the UK is four times higher in energy, and apples three times higher. The difference that generates these disparaties is the difference in efficiency. The paper points out various reaspons why NZ is more efficient in the production of certain goods, such as; fertilisers are very carbon-intesive and the UK uses a large amount of fertilizers while NZ agriculture tends to use less and NZ animals can graze year round outside while UK animals must consume brought-in feed, usually from concentrates. It is also suggested that those industries in NZ are clearly more efficient because they do not rely on subsidies to be competitive like their UK counterparts. With these points, the report shows that local food is not necessarily less carbon intensive and thus Silver Cameron's comment was erroneous.

Carbon Tax With Lump Sum Payments

The article begins by suggesting that Stephane Dion's carbon tax proposal had the right substance, but had the wrong package. Silver Cameron is of the opinion that there is a better way to assure revenue neutrality while securing the overall acceptance of a taxation policy by Canadians. His first suggestion is of a lump sum payment in partnership with an emissions tax. Specifically that a payment of $2000 will be received by all Canadians to neutralize the government's revenue from an emissions tax as well as offsetting any additional costs that citizens would incur through higher prices on carbon-intensive goods. Those who act in an environmentally friendly manner will profit from this dividend, whereas those who over-pollute will still suffer from the increased costs of their actions, however this initial compensation has associated disadvantages as well as advantages.

The emissions tax will increase the price of all carbon intensive goods, thus being an incentive for emitters to change their behaviour. The emissions tax combined with a lump sum payment at the start of every year will make the policy revenue neutral and will address the regressive nature of the tax. It is important to note that the lump sum payment at the start of every year will perhaps go further to address a carbon tax's regressiveness then a proportionate cut in income taxes. Because income tax cuts would only return money at the end of the year, lower income earners would have first had to pay a disproportionate amount on the tax for the twelve months prior. At least in the very short term lower income earners would be at a disadvantage with revenue neutrality through income tax cuts, this is not the case with an initial lump sum payment. However lower income earners with a direct payment could spend that money on necessities or other consumables at the onset and not spend the money to reduce their carbon emissions.

Furthermore, one could argue that with the income effect by giving people a lump sum payment they will demand more products and therefore cause an increase in carbon emissions. A response to that argument however is that because a carbon tax has been levied on the carbon emitting products an increased share of the consumers income will go to a basket of goods that are less carbon-intensive as they are now relatively cheaper.

One disadvantage of this initial lump sum payment approach to a carbon tax is that because the amount of money one receives is not linked to the amount of carbon intensive products you consume, the rebate itself will not affect the amount of carbon intensive products you consume. It is only because the carbon intensive goods are taxed that they become more expensive and people will substitute away from them. If the profits were used towards tax cuts that further reduced emissions the plan may be more effective.

Finally another disadvantage is that the lump sum payment, when compared to other possible alternative uses of carbon tax revenue is inefficient. In Pricing Carbon, Saving Green, the David Suzuki Foundation found that a lump sum payment was in fact the most inefficient revenue recycling method when compared to revenue recycling methods that ranged from returning revenue based on industrial output, cutting income taxes, cutting payroll taxes, and providing green subsidies. One reason for this is that lump sum payments do not go to reduce other taxes that are more damaging to productivity. Where income taxes offer a disincentive to work by taking away money earned from labour, if instead of a lump sum payment carbon tax revenue was used to reduce income tax, carbon tax revenue would help restore the incentive to work and thus help increase productivity. This is referred to as the double dividend effect.

Carbon Tax With Tariffs

In addition to the policy proposal mentioned above, Silver Cameron in his piece in the Chronicle Herald repeats an idea he heard from economist Jeff Rubin, that Canada and the United States should levy a heavy tax on domestic manufacturers' emissions, and at that the same time impose a tariff based on the carbon emissions of foreign manufacturers. Cameron uses steel as an example, so where Canada would put a carbon tax on its steel plants' emissions, the country would also have a tariff on imported steel based on the carbon emitted in its manufacture overseas.

Jeff Rubin had argued a carbon tariff on imports would level the playing field if countries like Canada and the U.S. taxed emissions domestically. He stated that with energy consumption per GDP in China being four times that of the U.S. economy, by putting a carbon tariff on Chinese steel, two things would be acheived; first, the Chinese would have a much greater incentive to become more efficient and second, domestic energy intensive steel industries would become more competitive. In the process, domestically energy-intensive products are made all the more expensive and thus there is an incentive for people to change their behaviour.

In addition to the benefits of a carbon tariff as Thomas Courchene and John Allan in Climate Change: The Case For A Carbon Tariff/Tax point out, the policy would help address current "environmental-free-riding issues" that are plaguing international attempts to reduce carbon. In economics, free riders are the ones who consume more of their fair share of a public resource or pay less than their fair share of the costs. Two kinds of the free riding problem are mentioned in the Courchene and Allan paper, the first is that countries that don't sign climate agreements have an advantage over complying countries, and the second is that firms in complying countries can get around climate agreements through outsourcing then re-exporting goods back. These problems are suggested to be identified with most international agreements, the most notable being the Kyoto Protocol. A carbon tariff would prevent free riding by levying the cost of carbon emissions on any good no matter its origin, making everyone pay their fair share.

Though the motives of Rubin, Courchene, and Allen are commendable, there are three readily perceived problems with a carbon tariff. The first problem is the difficulty in assessing the carbon emissions that were produced in the manufacturing process of a foreign good. It is difficult enough monitoring said emissions in ones own country, let alone another that has a different culture, business-orientation, legal system, and enforcement agency.

The second problem is concerned with the inefficiency of limiting or erecting barriers to free trade. In imposing tariffs considerable deadweight losses are generated, and it is likely to assume any possible environmental gains would not offer enough compensation to ensure a net benefit of the policy. This National Post article supports this point, it cites Jeff Rubin himself as he admits this fact, at least in the short term:

"At least initially, before other carbon compliant sourcing can be found, it will be U.S. consumers who will have to bear the bulk of the tariff burden in higher import prices," Mr. Rubin wrote. Based on China's share of U.S. imports alone, that would raise the annual U.S. consumer price index by more than 0.6 percentage points.
Canada would likely face a similar increase and costlier goods prices would hit growth as well.

Also it would be very probable that other countries would react with corresponding tariffs which would only increase the losses due to this policy.

A further implication of erecting a trade barrier in the form of a carbon tariff is that it would unfairly harm developing countries. This Eurobusiness article describes that sentiment as told by German State Secretary for Environment Matthias Machnig, who referred to the carbon tariff policy as "Eco-Imperialism." The reasoning for this criticism is that less developed countries do not have the similar means to reduce emissions as more developed countries, and thus a carbon tariff would only act to harm them.

The third problem is that this carbon tariff proposal might actually have no real effect and instead harm the Canadian and American economies. This carbon tariff policy, as reiterated by Jeff Rubin is generally aimed at developing countries, like China, whose economy is exponentially increasing its carbon emissions, mostly due to the use of coal. Rubin, as cited in the National Post article states, "There are more coal plants in China today than there are in the United States, the U.K. and India combined." However though China may be a growing carbon emitter, the majority of goods China supplies North America with, are not that energy intensive. As mentioned in this report, in 2008 Chinese steel only accounted for 17% of American steel imports, while 62% came from other industrialized countries, that most of which have already signed onto agreements to reduce emissions. In the end, the carbon tariff policy could actually harm Canada and the United States because, as a report from the CATO institute points out, most carbon-intensive imports come from other developed countries that have stricter emission policies and would therefore avoid the carbon tariff.

Conclusion

Silver Cameron's two proposals by offering large sums of money and protecting domestic industry appear to appeal to popular opinion, however both policies are severely lacking. First the lump sum payment in conjunction with a carbon tax, as the Suzuki Foundation Paper stated, is the most inefficient revenue recycling method and is not to be preferred. A far better option would be to use carbon tax revenue to both reduce income taxes and provide green infrastructure. Second, a carbon tariff will most likely create a large loss in social benefit; it will not offer the international incentives it hopes to create to reduce emissions, but rather create barriers to trade and thus decrease the size of the overall economic pie. It is perhaps for these reasons the EU for the most part has rejected the idea. Instead of a carbon tariff to address global concerns, it would be far more beneficial to have each country act in concert and willingly adopt carbon pricing. This could be done through negotiations at an international climate conference, such as the upcoming conference in Copenhagen. With American President Barack Obama, Chinese Premier Wen Jiabao, and Canadian Prime Minister Stephen Harper and others now attending, it appears that this type of carbon pricing negotiations could be attempted, and we would all be better off for it.

To put it bluntly though Silver Cameron's ideas on their face sound appealing, they are not the best applications of a carbon tax. A national carbon tax with revenue going to reduce income taxes and provide improved green infrasture in conjunction with an international agreement on carbon pricing would be the optimal solution; it would address competiveness concerns, along with free rider problems, while efficiently reducing carbon emissions in Canada.

Prof's Comments

Nice, thorough and well researched piece.