Carbon taxes
Carbon taxes are government-imposed fees levied on activities that emit greenhouse gases (GHGs), such as carbon dioxide and methane, into the atmosphere. These taxes are intended to address the external costs associated with GHG emissions, which contribute to climate change and environmental damage. The amount charged is typically based on the quantity of carbon dioxide equivalent (CO2e) emissions produced, considering the global warming potential of various gases. By increasing the cost of emitting GHGs, carbon taxes aim to incentivize emitters to reduce their carbon footprint and shift toward more sustainable practices.
Beyond emissions reduction, carbon taxes can have broader economic implications, redistributing wealth and potentially impacting consumer prices. Governments may utilize the revenue generated from these taxes for various purposes, including funding public programs or providing rebates to taxpayers. Different approaches to tax redistribution can yield progressive, regressive, or proportional outcomes, influencing the economic burden on various income groups. Globally, several countries and jurisdictions, including multiple European Union member states, several U.S. states, and Canada, have implemented carbon taxes or similar policies to address climate change, reflecting a growing trend to adopt market-based solutions for environmental challenges.
Carbon taxes
Definition
In the narrowest sense, carbon taxes are governmentally mandated fees levied on entities engaged in activities that cause carbon-containing greenhouse gases (GHGs), such as carbon dioxide (CO2) and methane, to be emitted into the atmosphere. Such activities would include the combustion of fossil fuels, changes in land use that increase CO2 emissions from soils, livestock propagation, solid-waste burial, and the production and disposal of goods that release carbon-containing GHGs to the environment when they decay. More broadly, as the phrase is used in political discourse, carbon taxes are fees levied on activities that lead to the emission of any of the major anthropogenic GHGs—CO2, methane, nitrous oxide, sulfur hexafluoride, hydrofluorocarbons (HFCs), and perfluorocarbons (PFCs)—whether the emitted gases contain carbon or not.
The amount levied by a carbon tax is determined based upon how many units of carbon dioxide equivalent (CO2e) are released into the atmosphere by a given activity. The CO2e of a GHG is calculated using the gas's global warming potential (GWP), which is based on the potency and longevity of the gas. In theory, carbon taxes could also be levied on people for inactions, such as failing to suppress a fire in a tree farm that functions as a carbon reservoir or failing to recycle carbon-containing materials.
Carbon taxes may be thought of as a type of consumption tax, as they are based on the consumption or reduction of a finite good (the atmosphere’s ability to tolerate GHG emissions). In a pollution-control context, carbon taxes represent taxes on the environmental damages inflicted by GHG emissions upon current and future generations by the production and sale of commodities. The difference between the market price of a good or activity and the overall cost that the good or activity inflicts on society is called the “externality cost” of the activity. If such externality costs are not “internalized” into the price of a good or activity, there is said to be a market failure, which many economists believe should be remedied by government action. The resulting taxes are often called Pigovian taxes in recognition of economist Arthur Pigou, who first developed the concept of taxing activities to compensate society for damages not priced into the activity in the free market.
Significance for Climate Change
Carbon taxes have been proposed as a means to control the emission of GHGs. Economic theory predicts that increasing the cost of emitting GHGs will lead emitters to curtail their activities. The size of the resulting reduction would depend upon the elasticity of demand, or the relative value that people place on activities that emit GHGs compared to activities that emit less gases or none. Carbon taxes would have a broad variety of effects in addition to reducing GHG emissions.
Like other taxes, carbon taxes redistribute wealth. The tax collected from GHG emitters is paid to the government, and the cost is passed on to consumers. The government can use collected revenues in many ways. For example, the government could use carbon tax revenues to administer government programs, compensate government employees, compensate contractors, or subsidize other forms of economic activity (such as the production of non-fossil-fuel-based energy). Alternatively, the government could rebate some or all of the tax to taxpayers, with or without regard for their income levels or for how much tax they have paid. Such revenue rebates are called “revenue recycling” in carbon tax discussions. Depending on the nature of the redistribution, carbon taxes could be proportional, progressive, or regressive. That is, they could place an economic burden on people in proportion to their incomes (proportional tax); increase the share of rebated revenue to lower-income people (progressive tax); or impose a higher burden on lower-income people than on higher-income people (regressive tax).
Carbon taxes are considered a price-based control measure, as their effectiveness is based on increasing the price of activities that lead to GHG emissions. Other forms of GHG control include quantity-based controls, such as carbon emission trading, and regulatory controls, such as vehicle emission standards. Among economists, both carbon taxes and carbon emission trading are considered to be more efficient than regulatory controls. Recent economic research suggests when the ultimate cost of an externality is uncertain, as is the case for climate change, and when the ultimate cost of reducing GHG emissions is uncertain, carbon taxes are superior to both emission trading and regulatory approaches.
In the twenty-first century, several world governments had made measures to implement carbon taxes. By 2024, twenty-three European Union member countries, with Finland being the first to do so in 1990, have implemented carbon taxes. By 2023, thirteen US states had implemented either a carbon tax or carbon pricing policy, with California being the first to do so in 2008. Canada, by implementing a carbon tax in the province of Alberta in 2003, became the first North American country to enact such a law. After the Canadian government passed the Greenhouse Gas Pollution Pricing Act (GHGPPA) in 2018, many provinces protested the act in the Supreme Court of Canada. However, the Supreme Court ultimately found the GHGPPA to be constitutional in 2021. The carbon tax rate in Canada was CA$50 per ton in 2022 and was raised to CA$65 per ton in 2023. Annual increases were planned to raise the carbon tax to CA$170 per ton by 2030.
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