Climate-conscious folk agree that atmospheric carbon dioxide is a key greenhouse gas and a large factor in global climate change. However, there are discrepancies in the methods chosen to address the problem.
Some say that carbon emissions should be banned. Some say fossil fuels should be priced. Others say that there are nuances within each. Which tools can we realistically use to mitigate climate change and the drastic effects it will have on our world?
I should start by saying that I write this from a pragmatic point of view—void of most dogma and limited by reality. Because of the massive economic slow-down that would likely occur from banning fossil fuels, we can safety scratch that plan. Despite the fact that I think they would be effectively banned if prices were high enough, out-right banning carbon emissions today would be disastrous.
That leaves us with the option of pricing carbon, which means directly attaching a monetary consequence for using fossil fuels to the activities that require it. This disincentives the use of fossil fuels—much as cigarette taxes have widely curbed smoking. Additional costs on a product spur individuals and firms to look for alternative inputs, or at the very least, get more out of every barrel of input, i.e. energy efficiency.
Attaching the true costs of oil to its uses is a phenomenon economists call “internalizing externalities.” Externalities are positive or negative consequences of an activity incorporated into the activity’s cost structure. The negative externality of burning fossil fuels is obviously the increased greenhouse gas emissions and subsequent global climate change. By internalizing that externality in the cost structure of fossil fuels, we effectively force every individual and firm to include the fiscal consequences of fossil fuels—the embedded cost of carbon pollution.
Coal train cars in Ohio. Coal is the world’s most carbon intensive energy source. Photo by: Creative Commons 3.0.
It makes sense for a government to do this for three main reasons. The most obvious: there is already a standing infrastructure to deal with national decision making, such as legislators, budgetary committees, the IRS, and federal economists. Secondly, the government is the body charged with protecting its citizens against invasion, natural disaster, and any other unforeseen consequence. Building on that moral duty is the final reason: pragmatism. Governments do, in fact, pick up the tab for natural disasters: Tropical Storm Sandy, Hurricane Katrina, and the BP Gulf oil spill are just the most visible of the litany of government-funded cleanups. With severe storms, droughts, and other natural disasters simultaneously on the rise due to climate change, government outlays must be offset by some other income.
It also makes sense that such a national—really international—problem be taken up by the federal government as opposed to local bodies. State income taxes are nominal compared to their federal counterparts. State armed forces are nominal compared to federal forces. Carbon pricing should have a similar relationship because of both its national and global importance.
Once carbon pricing has been identified as a reasonable tool in the fight against climate change, the following question is how. There has been significant debate as well as many public misunderstandings on this topic. There are two categories of carbon pricing to identify: carbon taxes and cap-and-trade, both of which have diverse opponents and supporters, and many intricacies.
Carbon taxes can be ascribed to fossil fuels at nearly any point along their lifecycle. Whether taken at extraction, refinement, wholesale, or retail, the ultimate cost will come from the consumer’s pocket. The consumer then spits this back to firms by increasingly opting for products or services with lower costs of imbedded oil. The end result is that firms will create new technologies, techniques, or energies to avoid the intensive use of fossil fuels, and carbon emissions will fall, which is what scientists say needs to happen to avoid catastrophic temperature rises.
Carbon taxes offer what my post-graduate mentor, Dr. Robert Pritchard, once called the prima facie option for climate change mitigation. This is the first blush choice. The infrastructure for taxation is already in place. The logistics of expansion are nearly effortless. Its one-to-one relationship of use-to-payment also satisfies the human desire for fairness. Still, as we have seen the politics are often quite difficult.
However, carbon taxes have limitations—as any single prong approach does. While it seems fair, the poor are at far greater risk of suffering than the rich unless the government builds in a proper redistribution system to accommodate for the increased costs of goods. Because the largest portion of fossil fuel energy is used by residences, we can examine automotive transportation, and transportation costs of foods, and residential electricity as important indicators. If carbon is taxed, these three expenses will balloon. As the poor pay a much larger portion of their salaries for transportation, food, and utilities than the rich, they will be disproportionately affected.
Carbon taxes also require each individual nation to legislate a generic change in differing political environments and economic structures. This may not be a reality in poverty-stricken nations, countries with gridlocked legislatures, or those who simply refuse to cooperate.
Additionally carbon taxes do not affect one of the world’s largest sources of greenhouse gases—deforestation. Deforestation, primarily in tropical zones, accounts for approximately 10% of all annual greenhouse gas emission. While carbon taxes do incentivize the rationing of fossil fuels, it doesn’t help get the carbon back down to Earth—sequestered in biota and oceans like it’s supposed to be. This brings us to an additional approach.
Deforestation of rainforest for oil palm plantations in Malaysian Borneo. Photo by: Rhett A. Butler.
To a certain extent, cap-and-trade programs could not be more different than a carbon tax. They are based on an implicit price on carbon—not one mandated by the government as a tax would. This implicit price lives and breathes every day in the market for carbon credits. A carbon credit is sold as an equivalent of the greenhouse gas effects of one ton of carbon dioxide emissions. These credits are allotted to companies based on historic emissions and then traded between them on an open market. This incentivizes companies who can cut emissions quickly to do so at a gain; those that can’t pay increasing production costs to continue polluting, which also incentivizes change.
Carbon credits can also be created by planting swathes of trees or otherwise sequestering carbon from the atmosphere. This is why they may eventually be used to stop climate change through a more global approach. Much like the problem at hand, cap-and-trade systems are inherently global, and incorporate carbon everywhere. This means that nations whose political bodies cannot legislate carbon taxation, can still produce carbon credits through forestland and mangrove protection, industrial emission reduction, or other forms of carbon sequestration. If the demand for a carbon market can be legislated in developed countries, a supply can be created in tropical forested countries—carbon credits for the rainforest.
There are powerful precedents set for both carbon credits and cap-and-trade programs. Each also has distinct strengths and weaknesses. While carbon taxes require much less investment in infrastructure, they may be socially regressive (i.e. hurt the poor) if not properly compensated. They also require each individual state to pass controversial and unwieldy legislation. Cap-and-trade, on the other hand, faces moral opposition from anti-market, anti-globalization movements and it requires investment in monitoring and evaluation. However, it may prove a valuable tool that allows a global reach for a truly global problem, empowering otherwise disenfranchised nations.
Any way we price carbon is a good way. Al Gore delivered a similar message at the 2013 Climate Reality Leadership Corps training. As long as we internalize the real cost—the climate change cost—of carbon emissions, we’re making real strides towards slowing it.
Owen Reynolds is an Economist in Washington D.C.
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