Energy taxation systems
Energy taxation systems refer to the various frameworks and policies that governments implement to levy taxes on energy production and consumption. These systems vary widely across different countries and can be influenced by several factors, including government objectives, economic conditions, and environmental concerns. The primary goals of energy taxation include generating revenue for public infrastructure, internalizing the costs associated with pollution and other externalities, and regulating the importation of energy resources.
In many economies, especially within the OECD, energy taxes form a significant portion of tax revenues and often take the form of excise taxes, which are based on the quantity of energy consumed rather than its value. The implementation of energy taxes can impact market behavior, affecting prices, investment, and overall economic productivity. Additionally, these taxes can help promote the use of cleaner energy technologies and reduce reliance on fossil fuels, aligning with broader climate goals. However, energy taxation can also present challenges, such as potential regressive impacts on low-income households and conflicting policies aimed at reducing both greenhouse gas emissions and energy import dependence. As concerns over climate change and energy security continue to rise, the effectiveness of energy taxation remains a crucial area of policy discussion.
Energy taxation systems
Summary: Governments have many concerns when it comes to energy policy, so energy taxation systems vary greatly by fuel, by country, and over time. Taxes are used to achieve three goals: to tax imports, to internalize externalities, and to fund transport infrastructure.
Taxation is the primary way in which revenues are collected in market economies. Part of the private sector’s income is channeled into the treasury by government mandate. Governments can design their tax policies to encourage or discourage certain activities. Taxation is a powerful policy tool that can greatly affect economic, environmental, and social outcomes. Governments usually have a wide variety of concerns when it comes to energy policy, so energy taxation systems vary greatly by fuel, by country, and over time. In broad terms, energy taxes are usually in place to achieve a combination of three goals: to tax imports, to internalize externalities (primarily pollution), and to fund transport infrastructure. The modern global economy is highly dependent on the use of fossil fuels, but energy taxation and other policy tools can mold the economy to be less reliant on fossil fuels and therefore generate lower levels of greenhouse gas (GHG) emissions. There is little agreement on how much energy should be taxed, and energy taxes are usually a reflection of government or community values.
Energy taxes are usually taxes on inputs, placed both on production and consumption. Taxes are either direct or indirect, with most energy taxes falling in the latter category. Indirect taxes are collected on events, rights, or activities. Selling oil is therefore indirectly taxed, whereas the tax on owning the oil is a direct tax. Taxes can also be either value-added or excise taxes. Excise taxes are based on the quantity, not the value, of products purchased; value-added taxes fall on end users and therefore do not alter production decisions. Most energy taxes are excise taxes and do not have that property. Energy taxes provide a significant amount of revenue in the countries that are members of the Organisation for Economic Co-operation and Development (OECD) but represent a much larger share of tax revenue in the European Union (EU) than in the United States, where energy is taxed at a significantly lower rate.
Why Tax Energy?
William Gladstone, as Chancellor of the Exchequer in the United Kingdom in the late nineteenth century, was known as a hard–nosed, pragmatic man. He is said to have asked physicist Michael Faraday—whose seminal works would soon open up vast innovation in electric motor technology—what possible practical application there might be for his discoveries in electricity. Faraday is reputed to have replied, “Why, sir, there is every probability that you may soon be able to tax it!” Indeed, the taxation of electricity and other forms of energy have proven irresistibly valuable.
Energy has low elasticity of demand, meaning that taxing it has low relative effect on demand levels. Revenues collected from energy taxation can be used to balance budgets, invest in infrastructure projects, or reduce other taxes. Energy taxation serves the general purpose of raising revenues for governments but can also serve energy policy in two broad ways. Taxes on fossil fuels can make consumers understand more accurately the full costs of fossil fuel use. Certain energy activities can be taxed to decrease dependence on oil imports or decrease GHG emissions. Tax breaks, or tax incentives, can also be offered to certain sectors within the energy industry to encourage the use of low emissions technologies or indigenous energy resources, therefore reducing import dependence. Effective energy taxation has become increasingly important as concerns over climate change and energy security grow.
Effects of Energy Taxation
Taxation affects prices, output levels, investment levels, and pollution levels. Firms, households, and governments of foreign nations change their behavior in response to taxes, which can result in taxes being shifted; effects can also be influenced by other types of regulation. Actual outcomes are therefore often different from what was expected; energy taxes and tax instruments can have significant effects on investment levels and type, as well as the rate of development of new and existing technologies.
A negative effect of taxation is that it adversely affects the level of goods and services in an economy. A tax system should therefore aim to make the price of a product accurately reflect its actual marginal cost. If taxes weigh too heavily on an activity, the economy has losses in output. Taxes can also negatively affect the proportion of productive capacity that is utilized. Energy taxes can also affect future productivity by their effect on investment levels, technological developments, and the education and skills of workers, to name but a few.
Proponents of free markets would argue that taxation distorts markets, although they prefer taxation to command-and-control regulation. They would prefer limited taxes on fuel and electricity, but unregulated prices do not accurately reflect the long-term societal costs of climate change, import dependence, or the local environmental effects of energy use. Therefore, many economists argue that unequal taxes that compensate for externalities in an economy actually improve efficiency.
Tax Instruments
Determining optimal taxation levels for the desired economic outcome is highly complicated for policy makers. There are usually multiple objectives in a government’s energy tax policy, which most often calls for several tax instruments, such as tax deductions and tax credits. A deduction reduces the tax base. People in higher tax brackets benefit more from tax deductions than do those in lower tax brackets. Tax credits, however, lead to a one-to-one reduction in the tax paid. They allow individuals and businesses to claim various types of credits for activities the government wants to encourage. Although many argue that energy should be taxed at the end-user level so as not to distort competition, it is easier to collect taxes from importers or producers from an administrative perspective.
Environmentally Related Taxation of Energy
Most environmentally related taxes imposed in developed economies are on energy products. Often these taxes are generated back into pollution control or to finance renewable energy tax credits. It is generally understood that the most effective way to reduce GHG emissions is to place a tax on fuels based on their carbon content. Coal would therefore be taxed more than oil or gas relative to energy content. A carbon tax alone would not reduce import dependence on oil, however.
Taxes on Oil Products
Oil taxes are relatively easy to collect, and when oil tax systems were established in most oil importing countries, oil producers had minimal political influence. Hence, revenues from oil taxes make up the bulk of energy tax revenues. Often gas and oil are taxed together because they are produced jointly, although tax benefits can vary for the same fuel by extraction method or location. Often governments impose import levies when oil markets are turbulent.
Transport fuels have historically funded transport infrastructure. Determining an optimal tax rate on transport fuels is difficult, and ideally the tax rate should reflect the negative environmental effects that fuel causes. Aviation in the EU is subject to the European Union Carbon Trading Scheme, meaning the airline, whether based in the EU or beyond, has to have obtained emissions allowances in order to land in the EU. However, the taxation of aviation fuel varies widely across the United States and a 2014 Federal Aviation Administration ruling required state and local governments that levy their own fuel taxes to apply the funds directly and solely to air transport–related needs. Diesel taxes are generally lower than those on gasoline; this is not ideal from an environmental perspective, as diesel engines cause more local air pollution and noise pollution than gasoline engines do, although they are more fuel efficient.
Conflicts in Energy Tax Policy
There are numerous examples of conflicting tax policies in economies all over the world. Taxation of energy to reduce import dependence on oil can sometimes be in conflict with taxation designed to reduce GHG emissions; higher oil prices encourage the use of coal, which has higher GHG emissions associated with its use. Because of oil’s geopolitical importance, taxes on energy can affect terms of trade and global political stability, and many call for more international coordination of energy taxation in order to improve its effectiveness.
There are two main barriers to expanding energy taxation in developed economies. First, increasing taxes in one country may decrease its competitiveness for energy-intensive industry unless taxes are expanded or increased everywhere, leading to job and revenue losses. There is not much evidence to support the fear of environmentally related taxes adversely affecting energy-intensive sectors, because they are largely exempted in industrialized nations. The OECD reports that most energy tax exemptions are for the “manufacture of coke, refined petroleum products and nuclear fuel.” Second, it is argued that energy taxes affect low-income households disproportionately, and therefore increased taxes on heating or electricity to households often need to be accompanied by tax allowances or credits.
Improving the Effectiveness of Energy Taxation
Many argue that the effectiveness of energy taxation could be improved if taxation levels were brought in line with the level of environmental damage caused. Although there is a recognized need for more comparative information on energy taxation to assist policy makers in drafting effective legislation, changing tax systems is often politically challenging because of energy’s importance as an input in the economy.
Bibliography
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