Fiscal Reform and Climate Protection: Considering a U.S. Carbon Tax
A Joint RFF/Peterson Institute for International Economics (PIIE) Workshop
The fiscal policy debate now underway in Washington could quite likely result in fundamental U.S. federal tax reform. Many economists agree that lowering distortionary taxes (for example, payroll and corporate income taxes) can accelerate economic growth and job creation. Putting a price on carbon dioxide emissions via a carbon tax—and using the resulting revenue to reduce distortionary taxes—has the capacity to both strengthen the economy and protect the global climate.
On October 18th, Resources for the Future’s (RFF) Center for Climate and Electricity Policy and the Peterson Institute for International Economics (PIIE) co-hosted a one-day workshop to discuss the design, implications, and prospects of a federal carbon tax.
The workshop’s opening panel discussed how a carbon tax fits into the broader landscape of fiscal reform, economic growth, and environmental protection. Additional sessions drew upon recent empirical modeling and conceptual thinking by RFF, PIIE, and other independent and government research institutions to evaluate key policy design considerations and options for a carbon tax.
A Carbon Tax in the Political Landscape
The day’s opening panel focused on how a carbon tax might fit into the current political landscape, given a strong U.S. focus on economic growth and fiscal reform. Speakers included Kevin Hassett (American Enterprise Institute), Ted Gayer (The Brookings Institution), Bob Simon (Senate Energy and Natural Resources Committee), Tauna Szymanski (Hunton and Williams; Download Presentation), and RFF President Phil Sharp. Together, the panel addressed the revenue potential of such a tax, the stimulus to economic growth from using the revenues to offset payroll and corporate income taxes dollar for dollar, and the reductions in greenhouse gas emissions that would result from the tax. Speakers also pointed to the well-known political hurdles such a policy must overcome, including the variable geographic and demographic impacts of the tax on households and businesses.
Uses of Revenue
This session addressed the potential size and uses of carbon tax revenue streams. PIIE Fellow Joseph Gagnon provided an overview of current U.S. deficit levels; RFF Senior Fellows Ian Parry (Download Presentation) and Rob Williams (Download Presentation) then shared their recent analysis of the effectiveness, efficiency, and distributional consequences of a variety of uses of carbon tax revenue, including reducing distortionary taxes such as personal income, payroll, and corporate taxes; reducing budget deficits; and funding additional government spending. They concluded that more progressive tax cuts are also more costly, illustrating the tradeoff between distribution of burden and economic efficiency. They also concluded that using carbon tax revenues to reduce the current deficit is likely more economically efficient than offering tax cuts—an important finding for policymakers as they weigh budgetary options.
Scope, Point of Regulation, and Crediting
This session addressed several key considerations in designing a carbon tax, including scope (which sectors are covered), point of compliance (where in the carbon chain to impose the tax), and whether to offer tradable tax credits for considerations such as offsets, carbon capture and sequestration (CCS), or private-sector R&D. Harvard professor and RFF Nonresident Fellow Joe Aldy concluded that an upstream tax on the carbon content of fuels is most consistent with tax policy principles; that a broader scope yields a larger tax base and lessens the risk of leakage between domestic sectors; and that tax credits should be offered primarily for downstream CCS and non-combustion fossil fuels (Download Presentation). Billy Pizer, former RFF Senior Fellow and Treasury official and current professor at Duke’s Nicholas School, then offered additional comments on carbon tax design, including the benefits and drawbacks of offsets within a tax scheme (Download Presentation).
This session addressed the impact of a carbon tax on U.S. competitiveness with respect to energy-intensive, trade-exposed sectors of the U.S. economy. RFF Senior Fellow Carolyn Fischer argued that in the absence of a global carbon price, effectively mitigating carbon leakage—in which higher domestic product prices can lead to substitution toward unregulated goods or imports—depends on the use of carbon tax revenues. Fischer explored six different policy scenarios (Download Presentation), suggesting that output-based rebates and border-carbon adjustments have potential to improve efficiency and reduce leakage if appropriately circumscribed. RFF Senior Fellow Dick Morgenstern then provided additional detail on sectoral impacts over various timeframes (Download Presentation), concluding that better targeting of rebates will help mitigate the most serious competitiveness issues. PIIE’s Gary Hufbauer and World Resources Institute’s James Bradbury provided closing comments.
Energy Sector Impacts
The day’s final session focused on potential impacts of a carbon tax on the domestic energy sector. The sessions featured presentations from PIIE’s Trevor Houser (Download Presentation) and RFF Senior Fellow Karen Palmer (Download Presentation), with concluding remarks from Southern Company’s Charles Rossmann. Houser and Palmer showed modeling results on topics including regional equity in electricity prices and fossil fuel production, oil and energy expenditures, the power generation mix, and cumulative carbon dioxide emissions.