Monday, June 23, 2008

Liberal "Green Shift"

I'm always sympathetic to any bold move on environmental or climate change policy.

On the face of it, the Liberals' new Green Shift plan is a good one. It establishes a carbon tax, starting at $10/tonne of CO2, which will rise yearly. Taxing carbon directly cuts to the heart of the problem, and for that reason many economists believe it to be the best option. The Liberals also promise to use the revenue to pay for a variety of tax cuts and incentives.

As Andrew Coyne notes, this plan is not actually revenue neutral. In other words, all the revenue raised by the carbon tax will not be going to tax cuts. Actual tax cuts are small or non-existent. Much of the revenue will be ear-marked to pay for tax credits, which Coyne rightly equates with new spending initiatives that will do little to promote stagnant productivity growth, unlike meaningful tax cuts.

But tax credits are not necessarily bad policy, even if they are spending by another name. And a carbon tax may be long overdue.

Whether a carbon tax or a cap-and-trade framework is more cost-effective is open to debate. Theoretically, cap-and-trade should be, since each emitter is able to reach their cost-effective solution, while a carbon tax would be indiscriminate. Firms less able to reduce emissions would be taxed at the same rate as firms more able, and the end result would be a deadweight loss, with one group having surplus profits and the other having surplus losses.

But in practice, there are very real complications with cap-and-trade that make cost-effectiveness unlikely. There would be costs associated with uncertainty over emissions and abatement costs. There would also be major administrative costs associated with running such an inevitably complex scheme.

A carbon tax, on the other hand, would be simple to administer. Taxes are easy to understand, even if unwelcome. And the government would have increased revenues that could be invested in alternative energy and other green solutions.

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