Jack Mintz and Mark Jaccard

Point - CounterPoint makes its debut in this issue of Alternatives Journal. In it, a powerhouse pair of internationally recognized economists apply the syncopated beat of the tango to the thorny issue of how to best tackle greenhouse gas emissions. Jack Mintz, named the 27th most influential tax expert in the world by the UK magazine Tax Business, says the time for a carbon tax has not arrived. Mark Jaccard, whose ideas on climate change were recently touted by The Globe and Mail as being “Jaccardian,” begs to differ.

Jack Mintz says

WE WILL SEE if the public policy mess caused by the abject failure of the Liberal government’s Project Green plan to curb greenhouse gas emissions will be improved by the Conservative government’s new Clean Air Act. Canada’s emissions are now 25 percent above 1990 levels, certainly well above the promised six percent reduction by 2012. Costly policies such as voluntary controls, subsidies and tax giveaways, and Rick Mercer’s One-Tonne Challenge have been ineffective, expensive ventures. They failed to overcome an ill-thought-out Kyoto target agreed upon in 1997 by former prime minister Jean Chrétien.

The target, taken because it would reduce Canada’s greenhouse gases marginally more than the United States, was chosen with little study as to whether Canada could accomplish the objective at a reasonable cost. Since 1997, the federal government has been stymied in trying to achieve the impossible. One idea being thrashed about is a proposed levy on energy sources (oil, gas, coal and others), varying according to the product’s carbon content. Long after being dismissed by the Chrétien government, carbon taxation has recently reared its ugly head with Liberal leadership contender Michael Ignatieff proposing to implement it federally.

So would a carbon tax be a good policy to deal with greenhouse gas emissions? Recent economic literature argues that carbon taxes can lead to a “double dividend,” whereby emissions would be reduced (a green dividend) and the revenues could be recycled to cut harmful taxes, thus improving the efficiency in the tax system (a blue dividend). Actually, I like to think of environmental taxes as providing a third dividend, red, which is related to the distributional consequences of the policy. The case for the triple dividend argument, however, is not so clear. Here is why.

The argument for a carbon tax yielding a green dividend is that consumers will avoid purchasing highertaxed products with greater carbon content. However, the tax approach may achieve little in the way of environmental objectives. The demand for such products as gasoline and heating fuel is less sensitive to price, since the tax also falls on necessary, almost essential, services such as heating and transportation. The carbon tax is also a highly inflexible tool since it cannot be easily adjusted for changing emission levels. Further, governments become reliant on the revenue and are less willing to adjust the tax rates downward when emissions decline. For these reasons, some experts have argued regulations that limit emissions, including tradable permit regimes, can be more effective and more flexible.

The blue dividend from a carbon tax could include recycled revenues spent on environmental programs. Dedicated taxes are anathema to finance departments since they introduce a rigidity in which the revenue must be spent on a bureaucratic-devised program regardless of whether the money is needed. Instead, greater bang for the buck could be achieved if carbon tax revenues were to replace economically harmful levies with high marginal tax rates on earnings, investment and risk-taking. You can bet your bottom tax dollar, however, that recycled revenues would likely be spent on transfers and politically driven public programs instead. Thus, no assurance can be given that the blue dividend would even be positive.

A carbon tax most likely results in a negative red dividend because it falls most heavily on the poor, whose consumption of gasoline, electricity and heating fuel tends to be a larger share of their resources compared to the rich. To get around this, some of the carbon tax revenues would be paid out as rebates to low-income Canadians to offset higher energy costs, thus negating the purpose of the policy.

So carbon taxes have little appeal in the sense that the green and blue dividends are far from certain and the red dividend is undoubtedly negative.

While current gas taxes are used to fund highways, roads or other infrastructure, proposals have often been made to raise the gas tax to curb greenhouse gas emissions and other pollutants. A broad-based environment tax on energy, however, would be far better than a narrow-based environmental tax such as the gas tax. The case for turning the federal gas tax into a broadbased environmental tax on various forms of energy was made by the Technical Committee on Business Taxation eight years ago. By keeping environmental revenues constant, the gas tax would be lowered in favour of new taxes on forms of energy, reflecting environmental damage.

In the end, the carbon tax is an idea whose time has not come. If governments are to be serious about reducing greenhouse gases, they need to look for more effective policies surgically directed at emissions rather than using blunt instruments. Carbon taxes won’t be much better than Project Green in achieving environmental or economic objectives.

This first portion of the article was adapted from the Financial Post (June 28, 2006).

Mark Jaccard replies

JACK MINTZ ARGUES that carbon taxes are inappropriate for curbing greenhouse gases compared to “more effective policies surgically directed at emissions,” but it is unclear what these superior alternatives would be. I assess his arguments against carbon taxes and then examine the alternatives. (By carbon taxes, I assume he means taxes on CO2 at the point of emission.)

First, Jack argues that carbon taxes would scarcely reduce emissions because they raise the price of essentials like gasoline and home heating fuel.He also argues that the inflexibility of carbon taxes hinders governments’ ability to adjust to falling revenues as emissions decline. In other words, he is criticizing carbon taxes for both causing and not causing emissions to fall. Which is it?

The more likely reality, as experienced in countries that have had modest carbon taxes for over a decade, is that these instruments induce a gradual shift toward lower emission technologies without a significant downward effect on energy use. It is important to remember that emissions are the issue, not energy use. Emissions can be reduced while using more energy if consumers switch to lower carbon fuels and the fossil fuel industry adopts carbon capture and storage. In any case, these shifts occur gradually, meaning that carbon tax revenues generate predictable income for governments. The important thing is to set a modest carbon tax initially, and clearly announce its scheduled rise over the coming decades.

Second, Jack is willing to bet tax dollars (I’d prefer he bet his own money) that governments will blow carbon tax revenues on political largesse instead of reducing productivity-hindering taxes. But this is like saying, “Government should not implement carbon taxes and recycle the revenue to reduce undesired taxes because government would not do it.” This response is equally appropriate for any of Jack’s excellent past proposals for tax reform. “Government, do not implement Jack’s proposal because you won’t implement it anyway.”

Third, Jack argues that carbon taxes hurt the poor more than the rich, and that compensation payments to low-income Canadians would emasculate the policy. Actually, the rich use a lot more energy per capita and even as a percentage of income the difference between high and low earners is not great. In any case, side compensation to low-income Canadians on a percapita or income basis will not negate the carbon tax’s influence on technology choices.

Finally, Jack’s second-to-last paragraph confused me. He says, “A broad-based energy tax, however, would be far better than a narrow-based one such as a gas tax.” But it is emissions, not energy use, that is the problem. A tax on energy would unnecessarily harm the economy with little benefit. Then he seems to reverse himself in saying, “The gas tax would be lowered in favour of new taxes on forms of energy, reflecting environmental damage.” But this is what a carbon tax is – a tax on environmental damage.

Since Jack sees as ineffective both carbon taxes, and the subsidies and information policies of the nowdefunct Project Green, this leaves regulations as the only option. I can support regulations. I see much evidence that they can be designed to achieve long-run environmental objectives with minimal short-run costs. Impacts on electricity rates were imperceptible as the United States emission cap and trade system – a market-oriented regulation – dramatically lowered acid emissions over the past two decades.Vehicle prices have been equally unaffected over 15 years as the California vehicle emission standard forced manufacturers to produce and market low-emission vehicles like the hybrid-electric car. Industry numbers show that a multidecade obligation on the fossil fuel industry to capture and store a gradually growing share of the carbon it processes would cause energy costs to rise less than one percent per year.

But I cannot find a single applied economist in this field who argues that these regulations are superior to carbon taxes in terms of the arguments presented by Jack. Both regulations and environmental taxes must be carefully designed to not force premature retirement of capital stock, to not destabilize government and industry revenues, to not shock consumer prices, and to protect our trade competitiveness. By providing a consistent signal throughout the economy, however, carbon taxes are the most efficient and effective means of achieving our environmental objective.

Jack Mintz responds

I APPRECIATE Mark’s comments – and especially his past effective analysis that has convinced me that environmental policies should be directed at emissions, not the consumption of products that contain emissions. I am afraid, however, that Mark has not understood my main point in differentiating between environmental and tax policy objectives, where the latter takes into account revenue-raising, efficiency and fairness objectives, not just environmental concerns.

A carbon tax will not be an effective environmental policy compared to regulations accompanied by flexible tradable permit trading, since taxes are set rigidly for two reasons.

First, governments do not have full information about the carbon content of all products and the potential demand and supply responses needed to be known to properly assess the optimal tax rates needed to curb emissions. As Martin Weitzman pointed out years ago, quantity controls may be superior to price controls depending on the market characteristics unknown to the government and the responsiveness of supply and demand to price changes. Using this basic analysis, a regulation accompanied by tradable permits is superior to a carbon tax if unknown demand is less responsive to prices than supply.

Second, governments are unwilling to adjust tax rates in the face of changing technologies that reduce carbon content in products, given their reliance on the revenues. As noted in past literature, sin taxes on alcohol and tobacco reduce consumption, but governments have also set tax rates to maximize their revenue rather than more effectively curb consumption. The same will happen with carbon taxes where revenue-raising objectives will compromise environmental policy. For this reason, I believe regulations with tradable permits would be better since governments do not get a slice of the pie and will focus more on environmental concerns.

So far, I have seen little analysis comparing which policy is more effective in achieving environmental objectives, but I would bet my bottom tax dollar that tradable permits are far better, even with imperfect monitoring.

It is not out of place to think of the use of environmental taxation as part of an overall tax system that would go in part towards achieving environmental objectives and helping fund government activities. This is a different public policy issue – taxes based on “bads” rather than just “goods” could be assessed widely on pollution-causing activities (not just carbon) to raise revenues more efficiently and fairly. Just don’t expect environmental objectives will be fully achieved.

Mark Jaccard sums up

I THINK Jack and I are not that far apart. In his response, he points to Weitzman’s famous 1974 analysis showing that under some conditions an emissions cap with tradable permits (a market-oriented regulation) can be superior to an emissions tax. I agree. The issue is to determine whether those conditions hold for carbon dioxide emissions. Jack says he has seen few studies comparing these two approaches, but would bet his own tax dollars that regulation is more effective. (I’d prefer he bet his own “after-tax” dollars.) As an environmental economist, I have seen many comparative studies, although these have not left me with a clear conclusion. I note that Bill Nordhaus at Yale University, who is considered the leading economist on climate change policy, noted recently that “price-type approaches [carbon taxes] are likely to be more effective and more efficient.”

Jack is also concerned that governments might set taxes to achieve fiscal stability rather than environmental objectives. Again, I agree. Perhaps his example of alcohol and tobacco taxes provides just the model for carbon. We combine high taxes that discourage consumption with regulations prohibiting smoking in public spaces and drinking while driving. Countries that have carbon taxes combine these with various regulations, such as the emissions cap with tradable permits.

Despite his reservations about a carbon tax, Jack says he’s favourable to environmental taxes in general. And indeed, Canada already levies environmental charges on pollutants ranging from pesticides to batteries to acid emissions with varying degrees of success. So why not tax carbon as well? A number of other countries have been doing so for a decade. In the end, I find it difficult to argue against at least exploring this means of curbing the emissions that scientists deem responsible for the greatest threat to humankind.

Jack Mintz is a professor in Business Economics and director of the International Tax Program, both at the Rotman School of Management. From 1999 to 2006, he was president and CEO of the CD Howe Institute.

Mark Jaccard is a professor at the School of Resource and Environmental Management at Simon Fraser University in Burnaby, BC. His book Sustainable Fossil Fuels (Cambridge U Press) won the $35,000 Donner prize in 2006.

For more on carbon taxes, read GLOBE Foundation of Canada's

Does Canada Need a Carbon Tax?

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