The Economics Of Carbon Fee & Dividend Policies
This training is also part of the Core Volunteer Training series.
Why A Fee?
Fees raise the cost of fossil fuel. This reduces demand for fossil energy (and products with high fossil energy content). When the price of something goes up, demand goes down (the one thing economists agree on). This reduction in demand in turn means fewer and fewer emissions. Our climate problem is due to a major market failure. When a factory dumps its pollution, such as CO2, in the air and water, the cost falls on us, not them. So, there is no incentive for the polluter to change. Here’s where the “Polluter Pays" principle applies. CCL’s carbon fee puts the cost back on the cause of the pollution--fossil fuels.
Why start low and escalate?
The great power of the Energy Innovation Act's escalating fee is the predictable rising price, sending a powerful signal and incentive for large scale clean energy investment. The fee starts at $15 per ton of CO2 and rises $10 each year (or $15/year if emission targets aren’t met). Most other proposals start higher and escalate slower. The Energy Innovation Act will continue until the target of 90% emissions reduction below 2016 levels is achieved.
CCL’s proposal starts low and steadily escalates to avoid economic shock/early political backlash, allow economic adjustment by industry, utilities and households, and provide a clear long term signal to get the largest behavior response (“tax salience”). The response of consumers to a predictable rising fee or tax is likely much stronger than consumer responses to price shifts due to market fluctuations. This tax salience may vary widely but is a key argument for clear predictable rising fees as opposed to “hidden” cap and trade and regulatory costs.
There are many more reasons for an escalating carbon fee including:
- Administrative ease
- Best fit for developing countries with weak institutions and corruption
Isn’t a "fee" the same as a “tax”?
Fee is an appropriate term as it’s commonly used for environmental programs that assign cost to pollution activities (example: dump your garbage in street? A fee for pickup is often imposed).
George Shultz, Ronald Reagan’s Secretary of State and CCL Advisory Board member, has told CCL “it’s not a tax if the government doesn’t keep the money.” And that’s the point. The fee is not a fundraiser for more government programs. It’s used as a price signal to shape the billions of investment and consumption decisions toward clean energy and efficiency.
How easy will it be to administer?
Any carbon fee and dividend policy would most likely utilize existing IRS and Treasury Department procedures and avoid creation of new bureaucracies. For more details, see How The Dividend Gets Distributed training.
Where will it be applied?
The fee is applied “upstream” i.e., as close as possible to the mine, well and point of importation. For more details, see How The Fee Is Assessed and Collected training.
What will the impact be on household energy costs?
CCL's laser talk on the details of anticipated increases in household energy costs finds they will rise approximately 5%-10% with the initial $15/ton fee. This will stimulate awareness and initiation of changed behavior without economic shock and political backlash. The average U.S. home energy bill is $2060/year (spread among heating, cooling, water heating, appliances, lighting and electronics). A 10% increase is $200/ year. The first year dividend will be approximately $692 for a family of four so the rising costs will be more than covered.
What kind of economic impacts can we expect from the fee and dividend?
CCL keeps up on the many studies out there and based on the extensive Stanford Energy Modeling Forum work, we find five main takeaways: the fee is effective; innovation will take off; health, local pollution reduction and other co-benefits not captured in the modeling will be significant; the economy will continue to grow just fine; and the dividend is the most equitable policy.
The recent Stanford Energy Modeling Forum (EMF) had 11 teams model two carbon tax rates of $25 and $50 rising at 1% or 5% per year. The forecasts were for CO2 declines of 26% to 47% by 2030 well beyond the Paris target and Clean Power Plan. Many economic impact modeling studies have been done comparing our revenue neutral dividend with tax cuts. [A note of warning is required here: economic models focus narrowly on economic “efficiency”. They don’t capture climate benefits, local pollution reduction benefits, accelerated innovation etc.] While some models like REMI have shown a positive economic impact, others find a slight drag on economic growth. The emerging consensus is that offsetting the revenue with corporate and payroll tax . For more information we recommend the recent Stanford's Energy Modeling Forum 32 papers and the CCL's Ten Fast Facts About Revenue Neutral Carbon Fees.
Won't costs be passed on leaving large polluters unaffected?
The carbon fee will affect all sectors of our economy - industry, businesses, governments, utilities and consumers - some greatly, some less so. Billions of investment and consumption decisions are affected each day. Most industries have to absorb some of the rising energy input costs. A recent study showed that selected industries pass on 25%-75% of fossil energy costs to consumers depending upon the industry’s competitive position, market power and availability of consumer alternatives (Ganapati, Shapiro, Walker, NBER Working Paper #2281, March 2018). In addition, industry also shift some of the burden back up to fossil energy suppliers by switching to clean energy options. Forecasts from modeling sometimes assume full cost pass through and perfect competition. This overstates the economic impact on households.
Introductions and Agenda
- Bob Archer, US-AID economist (retired)
Introductions and Agenda
Why the Fee?
Myths About the Fee
Explaining the Dividend
Why a Border Carbon Adjustment?