Derek Wietelman is an OK Policy summer intern. He is an Oklahoma State University student pursuing a double major in statistics and political science, with minors in economics and environmental economics, politics, and policy.
Last May, U.S. Senators Sheldon Whitehouse (D-RI) and Brian Schatz (D-HI) held a press conference to introduce a bill that would set a price of $45 on carbon dioxide emissions in the United States. What was most noteworthy about the occasion was not the content of the legislation itself, but where the two chose to introduce their legislation: the American Enterprise Institute, a conservative think tank.
While economists have long endorsed a carbon tax as an economically efficient way to reduce carbon dioxide emissions, the idea hasn’t receive much political support. However, a growing number of voices from across the political spectrum have begun to endorse the idea of putting a price on carbon. Just last year, a joint report authored by economists from the Brookings Institution and the American Enterprise Institute concluded that “a well-designed carbon tax could improve the long-run U.S. fiscal situation while reducing emissions.” As pressure increases in states and nationally to come up with a better policy response to climate change, does a carbon tax make sense for a politically conservative, oil-and-gas dependent state like Oklahoma?
What is a carbon tax?
A “carbon tax” refers to the setting of a price on emissions of carbon dioxide (CO2) into the atmosphere. Generally, the largest emitters of CO2 are industries that rely on fossil-fuel combustion, such as electricity producers. Carbon taxes are a subset of a larger category of taxes known as Pigovian taxes, which take their name from Arthur Pigou, the economist who first suggested them. The goal of a Pigovian tax is ultimately to change a behavior, such as smoking or gambling, that is harmful to a market or society. Carbon taxes fit this description: the end goal is to lower CO2 emissions that are damaging to the environment and public health, not necessarily to raise large amounts of revenue.
The price of a carbon tax is determined by estimating the “social cost” of carbon, or how much damage CO2 emissions cause to society due to factors like rising sea levels and more frequent extreme weather events. The U.S. Interagency Working Group on Social Cost of Carbon estimated that the social cost of carbon in 2015 is approximately $36 per ton of CO2 emitted (in 2007 USD). Adjusting for inflation, the Environmental Protection Agency estimates that the social cost of carbon is $40 per ton (in 2014 USD). In comparison, the Whitehouse-Schatz legislation sets a $45 per ton fee on CO2 (which would increase by 2 percent annually).
Why do economists generally support a carbon tax over other emissions-reduction methods?
“Six of the world’s largest oil companies penned an open letter in support of a tax on CO2 emissions.”
What would a carbon tax look like in Oklahoma?
Given the dominance of the oil and gas industry in this state, a tax on CO2 would likely not be welcomed with open arms. However, there are a multitude of ways in which a carbon tax could be beneficial to the state. One option would be to design the tax in such a way that it is revenue-neutral. This means that the revenue collected from the carbon tax would be used to lower taxes in other areas, like income taxes or sales taxes, so that the net amount of revenue collected by the government remains the same. A revenue-neutral carbon tax is the most feasible option politically, as conservatives who support a carbon tax generally prefer that it be revenue-neutral. Additionally, recent polling has shown that two-thirds of Americans support the concept of a carbon tax as long as it revenue-neutral.
However, a carbon tax does not have to be revenue-neutral in order to be economically beneficial. In Oklahoma, the increased revenue from a carbon tax could be a key part of a solution to shore up the state’s chronic and growing budget shortfalls. Oklahoma currently has some of the lowest gross production taxes on oil and gas, and tax breaks for the industry that were made permanent last year are costing the state hundreds of millions in revenue annually. Since Oklahoma has slashed taxes on the production of these fossil fuels, putting a price on the CO2 they emit would help make up the difference to properly fund vital public services.
What are some of the biggest problems with implementing a carbon tax?
Carbon taxes are not without their flaws. One of the biggest problems is that a carbon tax is naturally regressive, meaning that it takes the biggest percentage from families and individuals with lower incomes. Setting a price on CO2 is likely to initially hurt the budgets of low-income households who can ill afford higher energy bills. Promising solutions to this problem, such as lump-sum rebates, could help counter-balance the tax’s regressive nature. A low-income rebate is an essential feature of climate change bills that have been debated in Congress.
Additionally, carbon taxes run into trouble when it comes to the pricing itself. Policymakers and tax experts must carefully determine the ideal price of the tax – a price that is too low will do nothing to discourage emissions, while a price that is too high could stunt economic growth. Studies have shown that despite the government’s efforts to nail down the social cost of carbon, the large amount of variables that affect CO2 pollution make it difficult to get a precise measurement of the true cost. A Stanford study concluded that the current social cost of carbon estimates are drastically underestimating the true cost of carbon on society.
Despite these problems, evidence shows that a tax on carbon is a feasible and sensible solution to combatting rising emissions levels. However, as the earlier mentioned report from Brookings and AEI stated, “Political considerations, rather than economic analysis, are driving many policymakers’ views of a carbon tax.” As support for a carbon tax grows among conservative and the general population, it is time that policymakers take a second look at a solution that could have lasting benefits for the well-being of the economy and the environment.