By Eric Crampton 16/12/2020

My Dom Post column this week makes the case for a carbon dividend. Canada imposes a carbon tax on provinces that haven’t established their own carbon pricing regime, and is set to substantially hike the tax to $170/tonne. 

How is it politically feasible? Money collected in each province is sent back as a grant to residents in each province. Carbon prices maintain incentives at the margin to change behaviour; redistributing the revenues in a lump-sum manner preserves those incentives while addressing equity concerns and making the thing politically possible.

Here, the Climate Commission and government are behaving as though higher explicit carbon prices are impossible. There is no defensible explanation for carbon measures that would cost over ten times as much per tonne abated. If you want to do the most good possible, you have to buy all the cheapest ways of abating carbon first. The only half-way defensible explanation is that they view themselves as heavily politically constrained – that it’s impossible to use transparent carbon prices through the ETS if those prices rise to levels that would cause political backlash.

But that’s just stupid too. We teach every darned intermediate micro student that the first welfare theorem tells us to use prices, and the second welfare theorem says to deal with any resulting equity difficulties with lump-sum transfers. This is stuff that any decent undergrad should be able to think through.

So apply it here.

Too hard to get an industry like agriculture into the ETS? Provide bundles of annual ETS credits, on a declining schedule over time, to industry to bring them in, and set the allocations based on average output rather than a farm’s specific output so you wind up rewarding rather than punishing farms that moved earlier to abate emissions.

Too hard to bring the cap down more quickly over time because ETS prices would make fuel prices too high and be hard for poorer households that might rely on less fuel efficient vehicles? Take the money raised by government sales of ETS credits into the market and give it back to people in lump-sum fashion. Still think that doesn’t do enough to address equity? Boost the payments for those with Community Services Cards.

This stuff is absolutely not hard in principle. There’s stuff to be worked out in implementation, but the base principles are easy. But it’s hard to see evidence that anyone’s working on it. Instead, they’re working on ludicrous schemes that will wind up costing hundreds or thousands of dollars per tonne abated, because they’re scared of letting ETS prices rise.

Frustrating world when people seem determined to push for the 10th best when a 2nd or 1st best is entirely feasible.

Anyway, here’s the column. A snippet:

The federal government solved the problem in a rather ingenious way. It takes all of the carbon tax revenue raised from a province, puts it into a pot, and then gives it back to people in that province.

Provinces that produce more carbon emissions will pay more in carbon taxes. Households in those provinces then get a higher rebate payment back from the federal government. In Ontario, the first adult in a household receives an annual payment of $224. The second adult receives $112, and each child receives $56. The amount of the payment varies from province to province and will increase as the carbon tax rises.

This kind of rebate programme solves important equity problems. Richer households spend more money on everything, including on things that generate carbon emissions. A flat per-household payment funded by taxes disproportionately paid by richer households makes for a progressive transfer scheme.

And it also makes higher carbon prices politically possible. Most households will wind up receiving more back in carbon rebates than they will pay in carbon taxes. By 2030, the average family of four in Alberta will be receiving a carbon rebate amounting to about $3200 per year.

Work by University of Calgary economist Trevor Tombe demonstrates that the vast majority of lower income households will receive far more in carbon rebates than they will ever pay in carbon taxes.


Featured image by DDP on Unsplash.