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The Five Circles of Carbon Tax Hell

“The tax will not be implemented in the politically aseptic world of academic modelers, but in the real world of intense  political pressures. Its assumed purity will not survive the onslaught [as demonstrated by] … Sanders-Boxer [where] the carbon tax is treated as a huge honeypot for allocating money to powerful groups, including overseas interests.”

The carbon tax, a serious proposal supported by some thoughtful people, deserves careful consideration. This tax is the subject of an extensive and often technical literature with top scholars making proposals for Resources for the Future and for the Brookings Institution. [1] The term “carbon tax,” however, has a chameleon-like quality, meaning something different in each of three different contexts.

Three Rationals

In the context of economic theory, the carbon tax is a way to deal with an imperfection in the energy market. In this world, carbon dioxide (CO2) emissions cause harm for which the emitter does not pay. The purpose of the tax is to impose the full cost of his activities onto the user of carbon-based fuel, so as to force him to incorporate the cost of the harm into the price of the fuel. Once the level of harm and its costs are included in market prices, then the energy market will work properly.

In this formulation there is no preconception about the proper level of the tax or the final outcome of the competition between sources of energy. The tax is set by careful assessment of the costs of the harm caused by the emissions, and the level of use of carbon fuels is then determined by market prices.

In the context of tax theory and government finance, the carbon tax has a different function. It is a way to finance government and replace other levies. In this world, the goals are to maintain economic efficiency and tax equity, while, as in any tax system, plucking the most feathers from the geese that squawk the least.

In the context of environmentalism, a carbon tax can reduce emissions of the “pollutant” CO2. In this world, the limitations, caveats, and subtleties of the contexts of economic purity or tax policy do not apply. The reduction targets are not limited by any empirical estimate of the harm caused by CO2 — or by any concern that the level of a tax might rise so far as to become economically destructive.

Five Mega Problems …

In public and political discussion, the distinctions between these three contexts tend to get blurred, and arguments applicable to tax or economic issues are often incorporated into the environmental debate, despite the fact that in this context the carbon tax of economic theory or tax analysis is fiction. Political realities will determine the size of the tax and the disposition of the revenues. Politicians will be sensitive to the costs imposed on voters, and interest groups will fight for exceptions or subsidies to mitigate the effects, with the actions of each unhinged from the theoretical efficiency of the tax.

Viewed in this perspective, the carbon tax is a bad idea that should be rejected. Rather than a simple path to a benign energy future, the carbon tax is the proverbial Garden Path, or the road to Hell that is paved with good intentions. In the course of its inevitable failure, it would cause serious economic damage to the United States at a time when the nation’s economy is already under stress.

Carbon Tax Hell has five circles:

* The first consists of erroneous expectations about the ability of a carbon tax imposed in the United States to affect global temperatures. The assumption is made, usually tacitly, that of course a carbon tax would reduce future temperatures, and this would justify the costs and sacrifices involved. The proponents of the tax let people think this, but they do not attach a specific number to the predicted temperature reduction.

In fact, the impact would be tiny. The projections of the Intergovernmental Panel on Climate Change (IPCC) about the effects of CO2 on warming are highly suspect (see full paper for more). However, even if the IPCC conclusions are taken as accurate, a drastic 83 percent reduction in CO2 emissions from the United States over the next four decades would reduce global temperatures by 0.11°C, which is 4 percent of the IPCC’s midrange warming estimate of 2.96°C over the next century. (As discussed in the full paper, the IPCC’s models overstate the future impact of CO2 on temperature, so the actual impact of U.S. action would be infinitesimal rather than just tiny.)

* The second circle of hell consists of a lack of specificity about future sources of energy. The chart on page 3 shows current sources of energy in the United States. Advocates of a carbon tax lack any realistic chart showing energy sources in the future, after a carbon tax has produced some desired amount of reduction in CO2 emissions, such as the 80 percent target of Sanders-Boxer. Nor do these projections show any path for getting to a new constellation of energy sources.

In the absence of identification of specific technologies and their attainability, any discussion of significant CO2 reduction becomes a variation on the story of Peter Pan. If we all believe real hard, Tinkerbell will appear in the form of an Energy Fairy.

* The third circle contains problems with the basic theories used to support the carbon tax. In economic theory, taxes on bad things are intended to compensate for the fact that some of the harms caused by the bads are not paid for by the producers.

They spill over and land on others. Because the producers do not incur the full costs, the bads are over-produced. This theory is correct, but incomplete. It does not account for the complementary
principle that many benefits of an activity or product are not captured by the producer.

These, too, spill over to the advantage of others. Because the producers do not get all the benefits, they will produce less than they would if the costs and benefits were both concentrated in the hands of those responsible for the activity.

A simple example is that when a homeowner paints his or her house, the whole neighborhood benefits, while letting the house go to ruin harms everyone. Housing developments deal with this issue by requiring each owner to maintain his property at his own expense, so that all pay and all benefit from the actions of the others.

Discussions of a carbon tax focus on the negative spillovers, that is, on possible damage from CO2 emissions. But the spillover benefits of energy are also immense and difficult to measure. As depicted in the chart on page 16, increased use of energy, and especially cheap energy which is largely carbon-based, is intertwined with the extraordinary increase in global wealth over the past two centuries.

A policy focused only on the negative side presents an unbalanced picture. Also, objective studies of the impact of an increase in CO2 in the U.S. establish that there will be positive benefits from the increase. Imposing a carbon tax to reduce the emissions would forego these benefits as well. Again, accentuating the negative without referring to the positive distorts the picture.

* The fourth circle concerns mathematical modeling. Advocates of a carbon tax must rely on two rounds of models, an initial round of models for the climate system and a second round addressing the economic impacts of a carbon tax. Modeling is a highly uncertain business, full of opportunities for error. Scrutiny of the relevant
existing climate and economic models finds major uncertainties in both sets. Betting the nation’s economic future on them would be folly.

* The fifth circle of Carbon Tax Hell contains the political realities. Economist Bruce Yandle coined the term “Bootleggers and Baptists” to express a fundamental reality of public affairs: programs and policies are often supported by an alliance of “Baptists,” whose support is based on moral fervor, and “Bootleggers,” who smell profit. The term comes from the many contests over state laws forbidding liquor sales, which were supported both by those who  opposed drinking and those who profited from selling illegal liquor.

A carbon tax is supported by multiple sets of both Bootleggers and Baptists: idealistic environmentalists, crony capitalist subsidy seekers, investment banks in quest of trading profits, government spenders who see a new source of revenue and power, and the recipients of the $280 million in foundation money that goes each year to the field of climate change/energy.

… and Six Reality Checks

The tax will not be implemented in the politically aseptic world of academic modelers, but in the real world of intense political pressures. Its assumed purity will not survive the onslaught. The problem areas include:

* Its negative effect on GDP & jobs, especially over the long term;
* Its regressive nature;
* Its harm to energy-intensive industries, including their employees and regions
of the country dependent on them to be economic drivers;
* The unlikelihood that it would increase the efficiency of taxation, trigger a repeal of other taxes, or be administered in neutral fashion;
* The unlikelihood that it would trigger reform of other regulations;
* The need for complex and improbable international arrangements and the unlikelihood that China, the most important source of CO2 emissions, would join such a scheme. 

The tax will not be implemented in the politically aseptic world of academic modelers, but in the real world of intense political pressures. Its assumed purity will not survive the onslaught. The proposed Sustainable Energy Act and Climate Protection Act (Sanders-Boxer), for example, illustrates the political pressures at work. In that bill, the carbon tax is treated as a huge honeypot for allocating money to powerful groups, including overseas interests.

Should we ever expect anything better in the real world of “politics without romance“?

———

1. Resources for the Future, “Considering a U.S. Carbon Tax: Frequently Asked Questions,” December 2012. ; Adele Morris, “Proposal 11: The Many Benefits of a Carbon Tax,” in Brookings Institution, The Hamilton Project, 15 Ways to Rethink the Federal Budget, February 2013.

2. Chip Knappenberger, “Carbon Tax: Climatically Useless,” Master Resource, Dec. 3, 2012; Knappenberger, “Climate Impacts of Waxman-Markey (the IPCC-based arithmetic of no gain),” Master Resource, May 9, 2009.

3. Bruce Yandle, “Bootleggers and Baptists-The Education of a Regulatory Economist,” Cato Institute, Regulation, May/June 1983, p.12. See also the follow-up, Bruce Yandle, “Bootleggers and Baptists in Retrospect,” Regulation, October 1999.

——————-

James V. DeLong is Vice President & Senior Analyst of the Convergence Law Institute, a non-profit organization dedicated to research and education on public policy issues, especially in the areas of energy, technology, and intellectual property.

This post is taken from DeLong’s ”A Skeptical Look at the Carbon Tax,” released today by the George C. Marshall Institute in Washington, D.C.

An adjunct scholar with the Competitive Enterprise Institute and the Heartland Institute, DeLong has previously held positions as Senior Fellow at The Progress & Freedom Foundation; Senior Analyst at the Competitive Enterprise Institute; Vice President of the National Legal Center for the Public Interest; Research Director, Administrative Conference of the United States; and Assistant Director for Special Projects, Bureau of Consumer Protection of the Federal Trade Commission; and Senior Analyst, Office of Program Evaluation of the United States Bureau of the Budget.

Mr. DeLong graduated magna cum laude graduate from Harvard Law School, where he was Book Review Editor of the Harvard Law Review, and a cum laude graduate of Harvard College, where he majored in U.S. History. His most recent book is Ending ‘Big SIS’ (the Special Interest State) and Renewing the American Republic (CreateSpace 2012).

8 comments

1 Tom Tanton { 05.03.13 at 6:24 am }

I’d suggest two additonal problems, although which circle they may occupy is debateable.

First the concepet of externality accounting is predicated on only counting ‘damages’ which are “taxes on bad things … intended to compensate for the fact that some of the harms caused by the bads are not paid for by the producers.” But what about the benefits that are produced (say agricultural production increase) for which the producers are not compensated?

Second major fgallacy is that a carbon tax would reduce emissions. Increased taxes would likely lead to increased econmic and emissions leakage, just as we’ve seen in Cali under cap/trade (just one manifestation of a carbon tax.) Net result is increased emissions.

2 Eddie Devere { 05.03.13 at 9:34 am }

Let me take a few of the arguments in this article to the extreme in order to point out the silliness of the arguments.

(1) I’ll start with Circle 5. The argument here is that, since there are “bad actors” in the political arena (and “pork”), we shouldn’t adopt a carbon tax. But according to this logic, we shouldn’t ever pass any legislation because there’s the chance that there will be “pork” attached to the bill. Take this logic to the extreme and it suggests that we shouldn’t ever have government because we are afraid of the “pork” that might come from legislation. Don’t flush the baby down with the bathwater; zero government is not a good option.

Another reason that Circle 5 is poor reasoning is that there is already plenty of “pork” in the status quo. The author of this article did not suggest another way of tackling CO2 emissions. As he states, there is the real world of politics. But there will always be political questions that must be faced. The questions here are: which of the following options for regulating CO2 emissions is better and which is likely to attract a majority of the global population? Global Carbon Tax, Global Cap&Trade, Nation-by-nation regulation (such as by the lEPA and equivalent in other countries), the status quo, or some other set of options.
It’s important to remember that the policy of “do nothing” has its own “pork.” We are free to emit CO2 without having to pay for the damage. This is “pork” in that same way that government politicians hand out benefits to certain groups. It distorts the optimal path to growth.

(2) The logic in Circle 3 is equally silly. The fact that there are positive benefits to electricity production is not an argument against a CO2 tax. If the benefits of building the power plant out weigh the tax, then you still build the power plant. You just have to pay the tax. Or, if the CO2 tax is high, it might make more sense to capture the CO2 and sequester it underground. That’s the beauty of a carbon tax compared with other options of regulating CO2 emissions. The business gets to make the decision on what type of power plant to build based off the current and the expected CO2 price on emissions.

So, this comment of mine is a reminder to authors of this blog to apply their criticisms against a carbon tax to their own arguments for “do nothing.” Many of you (like myself) likely “benefit” from the policy of “do nothing.” Many of you need to be reminded that you (& I) are likely receiving as much “pork” as those people who directly get subsidies (such as Solyndra.) In economic theory, there’s no difference between a “direct subsidy” and an “indirect subsidy of not-paying damages.” The authors on this blog have a tendency to criticize Solyndra (which is a valid argument), but they often ignore the “pork” they receive because they don’t have to pay a CO2 tax in the US. In this sense, criticizing Solyndra while supporting “do nothing” is like the pot calling the kettle black.

The chances that “do nothing” will convince a majority of the global population is becoming slimmer every day. My suggestion is that those of you who like free markets should focus on some sort of global carbon tax because this is likely to be better than the status quo and all of the “pork” associated with the status quo.

3 rbradley { 05.03.13 at 12:33 pm }

Eddie:

A key point is that before the government should correct for “market failure,” government failure must be accounted for because of very bad incentives on the part of the government. Politicians are not interested in “saving the planet,” they are interested in getting reelected and increasing their budgets and power.

And when it comes to CO2, a global GHG emission, US-side activity is futile and a road to waste.

“Do Nothing” is a winning strategy on the climate issue–it is a shame, however, that we have wasted hundreds of billions of dollars (equiv.) instead of the same resources being spent on human-need charity or in private savings & investment.

Are you happy with the last 25 years effort re climate change versus its opportunity cost? I hope not!

4 Mark { 05.03.13 at 1:56 pm }

Rob:

Yeah control and extorting “campaign contributions” are important; but don’t forget the politicans’ perks from legalized insider trading :-)

5 Ed Reid { 05.03.13 at 2:51 pm }

The investments required to comply with the 80% emissions reduction required by Sanders-Boxer would be in the range of $20-25 trillion. A carbon tax, at any level, would contribute ZERO to that investment requirement, but merely add the cost of the tax on top of the investment requirement.

I would contend, as does the author, that the principal congressional interest in a carbon tax has very little to do with emissions reductions and very much to do with raising incremental tax revenue to be disbursed down a broad selection of new and existing rat holes.

6 Eddie Devere { 05.03.13 at 2:57 pm }

I’m not happy with the last 25 yrs of effort. And that’s exactly my point.
What I’m saying is that this is a global political issue, and as such, you have to get a majority buy-in on policy. Right now, the “do nothing” crowd is not achieving their desired goal, and instead, they are just pushing the government to find non-legislative ways of tackling CO2 emissions (EPA regulations as long with DOE & NSF funding to 1000s of researchers and businesses.)
What I’m arguing is that “do nothing” is never going to get a majority support (because CO2 emissions are a problem is the long-run. Co2 is a greenhouse gas, an acid gas, and can have health effects at long-term concentrations above ~2000 ppm.) Therefore, in my opinion, the “do nothing” policy is helping the Solyndras out there by preventing carbon taxes or carbon cap&trade. What I’m saying is that the “do nothing” crowd is partially (not fully responsible) for political pork like Solyndra (or any of the number of cellulosic ethanol companies.)

So, to repeat, I’m not happy with the last 25 years of support to large-scale “renewable energy” companies. I’m hoping that a carbon tax or a carbon capt&trade will eliminate gov’t pork to “renewable energy” companies.

7 Marlo Lewis { 05.04.13 at 2:43 pm }

Eddie,

Your reductio ad absurdum fails because you caricature DeLong’s argument.

In Circle 5, DeLong does not oppose carbon taxes simply because the sausage factory is home to charlatans and pickpockets. He does not implicitly reject all taxes just because we don’t have philosopher-kings.

Rather, DeLong is injecting realism into a debate dominated by those who pretend (for obvious political reasons) that their blackboard demonstrations of the alleged need for “corrective taxes” settle the issue.

DeLong started out by distinguishing revenue taxes from corrective taxes. Nobody thinks our monstrosity of a tax code is efficient or fair, yet figuring out how much revenue must be raised to cover the cost of battleships, highway maintenance, or food stamps is child’s play compared to figuring out how high carbon taxes must be to correct for the “social cost” of shrinking polar bear habitat.

Unlike the cost of government programs and services, the social cost of carbon is an unknown quantity. Try, for example, to discern carbon’s social cost in the following information. King et al. (2012): The rate of Antarctic ice loss is not accelerating and translates to less than one inch of sea-level rise per century (http://www.nature.com/nature/journal/v491/n7425/full/nature11621.html ). Weinkle et al. (2012): There is no trend in the strength or frequency of land-falling hurricanes in the world’s five main hurricane basins during the past 50-70 years (http://sciencepolicy.colorado.edu/admin/publication_files/2012.04.pdf ). Bouwer (2011): There is no trend in hurricane-related damages since 1900 once economic loss data are adjusted for changes in population, wealth, and the consumer price index (http://www.ivm.vu.nl/en/Images/bouwer2011_BAMS_tcm53-210701.pdf ). National Climate Data Center: There is no trend since 1900 in U.S. soil moisture as measured by the Palmer Drought Severity Index (http://www.worldclimatereport.com/index.php/2012/08/14/hansen-is-wrong/#more-551 ). Hirsch and Ryberg (2011): There is no trend in U.S. flood magnitudes over the past 85 years (http://www.globalwarming.org/wp-content/uploads/2011/10/No-change-in-flood-risk-over-20th-century-Oct-2011.pdf ). Davis et al. (2003): As U.S. urban air temperatures have increased, heat-related mortality has declined (http://www.ncbi.nlm.nih.gov/pubmed/14594620 ). Goklany (2009): Global deaths and death rates related to extreme weather have declined by 93% and 98%, respectively, since the 1920s (http://www.thegwpf.org/indur-m-goklany-global-death-toll-from-extreme-weather-events-declining/).

Social cost of carbon estimates depend on multi-layered assumptions about climate sensitivity, the impact of warming on weather patterns and sea-level rise, the impacts of the latter on economic activity, and the impacts of changes in global temperature, weather, sea-level rise, and economic activity on public health and welfare. The uncertainties multiply at each stage of the analysis, and none of the principal assumptions is likely to be correct, because each depends on still other debatable assumptions.

For example, nobody has a clue what adaptive capabilities our wealthier, more technologically advanced descendents will develop over the next 50 to 80 years. This makes all assessments of climate change impacts on public health and welfare essentially guesswork, even if the science were “settled.” It’s not. After 20 years of study research continues on the core scientific issue of climate sensitivity, with recent studies indicating that IPCC warming projections are likely too high (http://www.masterresource.org/2013/02/lukewarmers-2012-edition/).

In short, the social cost of carbon is in the eye of the beholder. Basing new taxes on social cost estimates is an open invitation to sophists, rent seekers, and partisan schemers to make a further mess of the tax code, suppress growth and job creation, and rig energy markets on behalf of special interests. Pointing this out, as DeLong did, is not an implicit rejection of taxation as such.

As for Circle 3, DeLong’s logic is spot on. Carbon tax advocates do ignore the positive “externalities” of affordable energy, even though the social benefits of fossil fuels are real and massive (http://www.cato.org/sites/cato.org/files/pubs/pdf/pa715.pdf ). You write: “If the benefits of building the power plant outweigh the tax, then you still build the power plant. You just have to pay the tax.” That still ignores the other side of the ledger. If negative externalities should be taxed, then positive externalities should be subsidized. How do you know the negatives of carbon-based energy outweigh the positives?

The big point you’re missing is this: Because carbon-based energy has social benefits – benefits over and above those paid for in commercial transactions – carbon taxes have social costs!

Consider the recent Boxer-Sanders bill to establish a carbon tax that starts out at $20 per ton and increases by 5.6% annually. Using a version of the EIA’s National Energy Modeling System (NEMS), Heritage Foundation analysts David Kreutzer and Nicholas Loris calculate that the Boxer-Sanders initiative would reduce average household income by more than $1,000 per year and reduce employment by more than 400,000 jobs in 2016 (http://www.heritage.org/research/reports/2013/04/boxer-sanders-carbon-tax-economic-impact). These economic impacts have a social cost due to the obvious linkage between livelihoods, living standards, and life expectancy. Literally dozens of studies find that poverty and unemployment significantly increase the risks of illness and death (http://www.mcgill.ca/sociology/sites/mcgill.ca.sociology/files/2011_–_social_science__medicine_0.pdf ).

Carbon tax proponents typically sweep the negative externalities of their agenda under the rug. Their blackboard demonstrations are one-sided, i.e. partisan. Like the man said.

8 Gary Novak { 05.04.13 at 4:14 pm }

To say that people are exploiting carbon dioxide by doing nothing and must therefore pay a carbon tax is like saying people are exploiting rain and must therefore pay a rain tax.

All biology is on the verge of becoming extinct due to a shortage of CO2 which is needed for photosynthesis. There was five times as much CO2 in the air during dinosaur years, and twenty times as much when modern photosynthesis began 500 million years ago, because oceans continually absorb CO2 and tie it up as calcium carbonate and limestone.

Greenhouse operators often add three times as much CO2 to the air to promote plant growth. In other words, the promotion of a carbon tax starts with the assumption that CO2 is bad without clarifying why it is bad.

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