Blog Post

Will the Clean Power Plan Reduce the Prospects for a Carbon Tax?

Dec 4, 2015 | Timothy J. Brennan

Assuming it survives court challenges and the next election, the Environmental Protection Agency’s Clean Power Plan (CPP) will go into effect.  To make an exceptionally long story short, the key feature of this plan is determination of state-by-state carbon dioxide emissions targets for electricity generation.  States are left to determine alone or together how to meet these targets.

Meanwhile, a carbon tax based on carbon dioxide emissions equal to reasonable estimates of the climate change-related costs per added ton of CO2 is the favorite policy among many in the environmental policy community, especially economists.  One reason is ubiquity—all burning of fossil fuels would be subject to the tax, not just electricity generation as under the CPP. 

A second is that the revenue from the tax could be used to provide economic or social benefits.  These include balancing the budget, reducing other taxes that distort economic activity, compensating low income households for higher energy-related costs, and funding new public programs. 

The question here is whether the good—the CPP—is the enemy of the better—a carbon tax, in that the CPP makes it less likely to get a carbon tax passed. A first reason to think so is that these are substitute policies for addressing the goal of reducing carbon emissions. With a CPP in place, the contribution a carbon tax can make to address the problem is less than if the CPP were not there.  Were an appropriate carbon tax in place, it is difficult to imagine that a CPP would be under consideration.  Unfortunately, the CPP is not a perfect substitute for a carbon tax, but it nevertheless reduces the scope of the market failure a carbon tax would address. 

Some colleagues at RFF suggest that by adopting the CPP, the US will encourage other countries to adopt some climate control policies.  While I have no expertise in international climate politics, the crude converse seems plausible—that the absence of US policies could reduce the likelihood of climate controls elsewhere.

The primary reason the CPP reduces prospects for a carbon tax is political.  The maximum allowed emissions for each state that EPA grants under the CPP are equivalent to the EPA giving each state permits to emit up to its maximum.  These assets may be quite valuable.  Under a federal carbon tax, states—or the entities within the state to which the state allocated permits—would have to give these permits and the money they represent back to the federal government.  This prospect, created by the CPP, will create enormous political resistance to a carbon tax.

This resistance would be avoided if revenues from a carbon tax could be used to compensate states and others for permits returned to the government.  Unfortunately, a somewhat analogous precedent is not comforting.  The FCC has spent years attempting to implement a mechanism to compensate television broadcasters for spectrum that would be auctioned to mobile broadband providers.  The FCC’s “incentive auction” has been under constant legal challenge and political pressure as broadcasters attempt to extract as much money as they can.  One can expect similar pressure to impede passing a carbon tax.  Even if a compensation scheme succeeded, the federal government would have less revenue to provide the economic and social benefits described above.

An additional impediment created by the CPP is that by setting quantities states must meet, it discourages states from addressing carbon policies through their own carbon taxes.  When the costs of reducing carbon are uncertain, a state cannot guarantee that it will meet a target with a carbon tax.  The good news is that the CPP could pave the way for a national cap-and-trade program akin to that passed by the House in 2009.  However, if passage would be contingent on states retaining permits effectively granted by the CPP, then the federal government would have less potential revenue to obtain through auctioning permits.

Other policies with some of the benefits of a carbon tax might be feasible following the CPP.  For example, since little electricity is generated using oil, an oil-specific carbon tax might address much of the non-electricity related CO2 emissions.  Because natural gas plays important roles in both electricity generation and in other uses such as residential and commercial heating and industrial production, including it in an economy-wide carbon program following the CPP will be tougher.

With all these problems, it is important to observe that if a carbon tax is not likely to be passed, the CPP plus a patchwork of other policies may well be the best we can do.  The impossible perfect should not be the enemy of a feasible good.  Nevertheless, if Congress might enact a carbon tax in the foreseeable future, the CPP may come to be seen as an impediment to effective climate policy—and a missed opportunity for the US to be the world leader in taxing carbon—rather than a step in the right direction.


* I thank numerous discussions with RFF colleagues on this issue, but neither they nor RFF should be blamed for my opinions and errors.