Climate crisis? No! A tax holiday!
Tradable emission permits have become the instrument of choice for policy makers aiming to reduce greenhouse gas emissions. Emission trading systems are already in place in most of Europe, China, parts of North America, and Australia and planned for many other countries, notably Brazil and Turkey. Permits are increasingly auctioned, the revenue flowing to the government.
At the moment, permits are many and prices are low. Revenue is modest. Over time, the number of emission permits will fall and permit prices will increase. The Intergovernmental Panel on Climate Change (IPCC) reports that prices will need to increase by a factor 10 between 2030 and 2050, for a fair chance of meeting the climate targets agreed in the 2015 Paris Agreement. Prices will increase faster than the number of permits fall, and government revenue thus goes up.
The sums are considerable and the uncertainty is wide. Some models project that the revenue of permit auctions would amount to one percent of Gross Domestic Product, but other models report 20% of GDP. The best guess is about 7% of GDP. That is a large number. In 2019, the average government received some 14% of GDP in taxes. The revenue of the permit auctions is so large that the government can afford to cut income tax by half, and value added taxes, excises, and tariffs too. Or maybe the revenues are large enough for a tax holiday of 20 years – with money left over for an increase in benefits and more government spending on education, health, and so on.
This sounds nice. Nobody likes to pay tax. It is not clear, though, that such a major fiscal reform is feasible in a relatively short period of time, particularly since taxes will need to be reintroduced once emissions hit zero. Furthermore, the above numbers are global averages. The required fiscal reform is much smaller in rich, energy-extensive economies (like ours – boo hiss the tax holiday is not for us) but much larger in the countries that really matter for future climate change, such as China and India. Indeed, auction revenue may be 2-3 times current tax revenue in India and perhaps 5 times in China. It is not easy to see how any society can bear this.
There is another complication. If we really want to meet the temperature targets agreed in 2015 in Paris, then it is not enough to reduce emissions to zero. We will have to remove carbon dioxide from the atmosphere. We know how to do that – or rather, how to get plants to do this for us. The problem is that the market for carbon dioxide is saturated – there are enough bubbles in your beer. Climate policy is the only reason to suck CO2 from the air. That is, carbon dioxide removal will have to be subsidized. The required subsidies are large. The more optimistic IPCC models project subsidies of 2-3% of GDP – roughly what we spend on the military or primary education – the more realistic ones 7-15% of GDP – total spending on health care is around 10%. These are large sums of money.
To keep costs down CO2 removal will be down in large, mechanized mono-plantations in areas where land is cheap. That creates another problem. We all have friends and relatives in need of health care – and therefore accept the taxes that pay for that. We all know doctors and nurses, and we agree that they should be paid a decent wage – from our taxes. Carbon dioxide removal will need to be supported with tax money, but this money will not be to keep grandma alive or pay a helpful nurse. The money for CO2 removal will go to large multinational companies who operate in faraway countries in order to help solve a remote problem. It is hard to get votes for such a subsidy, harder if that subsidy is really large.
The fiscal problems of climate policy rapidly disappear if less stringent targets are set. Decarbonizing the economy at a more leisurely pace will still require tax reform – but to a much smaller extent, one that is well in line with historical precedent. It would be even better to abandon emissions targets altogether and instead steer climate policy on its cost.
It is widely accepted that climate change is a problem that needs to be solved urgently. Emissions should therefore be reduced as fast as society can bear – but not faster. Climate policy should cost as much as people are willing to pay – but not more. Going too fast risks a backlash – and we currently see governments around Europe backtracking from their earlier, overly ambitious climate targets.
This is unfortunate. The climate problem will be solved by innovation and investment in carbon-neutral alternatives. Entrepreneurs are keener to invest in a dependable future. Climate policy has a long history of overpromising and underdelivering and this has arguably led to higher emissions. Flip-flopping politicians do not help. Realistic emissions targets would make a good start.