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The carbon tax: A revenue neutral system to reduce climate change

“If you dispute the overwhelming scientific understanding that we humans are significantly exacerbating climate change, evidence is unlikely to change your opinion.” — Laura Tyson, dean of the College of Business, University of California.

If you accept the scientific consensus, you should know that economists of all political persuasions agree a carbon tax is the most efficient way to reduce carbon combustion.

Fossil fuel combustion causes ground level ozone accumulation, acid rain, global warming and other problems. Economists have found two market-based ways to reduce the emissions: the carbon tax and a cap-and-trade system.

In a carbon tax application, a tax is levied on how much carbon is released through fossil-fuel combustion. This enables the price of the fuel to reflect the full cost of its impact on the environment.

Normal market pricing allows buyers and sellers to negotiate a price based on the private costs and the private benefits. In the normal market, costs imposed on society (called negative externalities) are ignored.

As a society, we do understand this concept. For example, when we purchase a new battery for an automobile, we are charged for the proper disposal of the old one. We place an extra tax on cigarettes to reduce their consumption and to pay for the negative health impact of smokers on health care costs.

Raising the price of fossil-fuel combustion has several benefits. It encourages efficient use by everyone (utilities, businesses and consumers).

A recent study found that people in Sweden use half the energy per capita compared to Americans. Why? Because higher energy prices in Sweden causes its more efficient use.

This is basic economics. We humans waste what is cheap but economize on what costs us more. Making carbon combustion more expensive assures more competitive options for alternative energy sources, thereby causing less environmental harm.

The cap-and-trade system is more complex. First, government decides how much carbon effluents may be omitted in a region. Then, it auctions the right to omit carbon pollution during the year.

Firms that emit the pollution bid against each other for the right to pollute. Economists like this method because it allows firms to decide whether to pay to pollute or to clean up their process in order to omit less pollution.

Firms with the most expensive clean-up costs would most likely purchase the pollution permits. Those with lower clean-up costs would rather avoid the costs of the permits and reduce their emissions.

The total actual costs would therefore be minimized. Expensive ones would be avoided, and the cheap ones would be financed to avoid the permit costs. The implementation of this process, however, requires constant government monitoring of pollution emissions (to eliminate cheating) and annual operation of the permit auctions.

The argument against both options is clear. Higher costs for energy would decimate the economy. Some of the pessimistic projections ignore the ability of our economy to transform itself into a more energy efficient mode.

The potential economic costs have swung political momentum against both the carbon tax and the cap-and-trade system.

Economists have proposed ways to reduce or eliminate the negative impacts of the carbon tax on the economy. The key is what to do with revenue collected from the tax on carbon emissions.

Adele Morris of the Brookings Institute has proposed that 15 percent of a $16 per ton tax on carbon emissions could be used to make lower income households whole. Another idea is to use the carbon tax revenue to cut corporate income tax rates from 35 to 28 percent.

Conservative economist Gary Becker advocates returning the revenue directly to taxpayers by lump sum or per capita rebates.

The simplest proposal comes from Henry Jacoby and John Riley from the MIT Business School. They say the revenue from the carbon tax should be used to reduce the tax rates for all tax payers.

By lowering these tax rates, all consumers would be able to pay the higher prices for goods and services without losing any actual purchasing power. In this way, there would not be economic losses, but there would be substantial environmental improvements.

Economic policy debates in Congress are being hijacked by ideological blinders. We all suffer from decisions driven by dogma. Economists rarely find consensus on big questions. Here we have one: the carbon tax.

We recently learned that China, a growing source of carbon emissions, will impose a carbon tax on their producers. We cannot afford to be behind them on this. Their firms will have a head start adjusting to the new reality.

Kenneth Zapp, PhD, is a professor emeritus at Metropolitan State University, an adjunct professor at Savannah State University and a mentor for SCORE Savannah. Contact him at Kenneth.Zapp@metrostate.edu.

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