In this month’s update we’ll look at a short paper from the Tax Foundation and a piece at National Review from Ben Zycher that addresses many of the paper’s core arguments.
Tax Foundation — June 21, 2022
On paper, carbon taxes look fantastic, but they do have a few challenges in practice.
The most important challenge is calculating the social cost of carbon emissions so an accurate carbon tax can be applied. The calculations are simple if one has an estimate of the expected future damage caused by an increase in carbon emissions, which can then be discounted to determine the cost in present terms.
Two variables can have a large effect on the estimate of the social cost of carbon. The first is what damages to consider: some suggest when making policy within the U.S. we should consider only the costs of carbon that will impact the U.S., while others say we should take the whole world into account. The second is the discount rate to use: a high discount rate will mean costs far in the future will be worth much less in real terms than if we used a low discount rate.
IER’s Take
The Tax Foundation’s Alex Muresianu and Huaqun Li maintain with this June paper the organization’s established sober approach to climate change policy. The authors argue that while carbon taxes may not be perfect, they’re certainly better than clumsy policies like the Corporate Average Fuel Economy. I can’t disagree with that. Setting aside the inevitable horse trading that would degrade its effectiveness, a carbon tax could be a less odious approach than what the authors describe as “Rube Goldberg schemes to reduce emissions.”
The authors correctly state that the “most important challenge” to carbon taxes is estimating the social cost of carbon (the basis for the dollar figure used in carbon taxes), but their discussion of this challenge is insufficient. While they mention two daunting hurdles to the SCC (discount rates and whether to include or exclude foreign costs and benefits), they gloss over some profound uncertainties and omit a crucial aspect: the number of years out to which a climate assessment model is run.
In discussing the range of existing SCC estimates the authors state that the high-end is “well above $100 per ton.” In fact, the high-end estimates reach well above $1,000. According to the very Resources for the Future paper that the authors cite, a high-end SCC at a 2-percent discount rate could be as extreme as $1,557 using constant discounting. I highlight this figure in order to show how unsettlingly large the spread actually is in these estimates and how profound the modelers’ choices are. By putting the high-water mark at around $100, the Tax Foundation authors can present the Biden administration’s $51 interim SCC as a reasonable compromise compared with the previous administration’s estimate of less than $10. That some models actually generate SCCs of over $1,000 casts suspicion on the entire enterprise.
To give this a more tangible perspective, let’s think about gasoline prices. Every $10 in carbon tax equates to about a 10-cent increase in the cost of a gallon of gasoline. The Biden interim SCC thus would mean a 50-cent increase per gallon. The high-end of $1,557 would mean each gallon of gasoline would come with a $15 tax. While the first figure is substantial, the second would utterly cripple our day-to-day activities.
The point here is that the parameters used in SCC estimates matter greatly. Muresianu and Li don’t really get into those parameters much and so they make the foundation for carbon taxes seem less complex than it really is. A key factor they don’t mention at all is that of the time horizon. Put simply, how far into the future are we running our models for? Put more philosophically, how do we rationally weigh benefits accruing to people centuries or millennia into the future? Can we even do so?
As Nobel-winning economist William Nordhaus wrote memorably on the time horizon hurdle back in 2007:
It seems a natural starting point to assume that people with equivalent consumption bundles should be treated as having the same level of economic welfare. Moreover, this assumption seems reasonable where it involves the same person at points of time that are not very far apart. This approach is more difficult to interpret when it involves different generations living many years from now, and it arises with particular force when the current generation’s great(n)-grandchildren consume goods and services that are largely unimagined today. These will almost certainly involve unrecognizably different health-care technologies, with supercomputers cheap enough and small enough to fit under the skin, and future generations that grow up and adapt to a world that is vastly different from that of today.
Carbon taxes run the very real risk of causing more harm through their associated economic losses than they prevent through reducing emissions. The longer the time horizon we’re projecting, the more likely we’ll get it wrong.
Note 1: Muresianu and Li’s June paper was preceded by a Muresianu op-ed at National Review that summed up its main points. I responded to that article for the American Spectator, where I took a different tack, raising the challenge of the nature of carbon taxes in an anarchic international system.
Note 2: The Resources for the Future paper explains in depth why the approach that lead to an SCC of $1,557 is problematic. “Under constant discounting,” the paper describes, “such tail events are very rich futures with associated large amounts of consumption at risk from climate change. Yet constant discounting treats each dollar of cost to those wealthy future generations the same as a dollar of cost to a relatively poor future. Hence, with constant discounting, the effects on the future rich inappropriately dominate the expected value of the SCC, leading to a strong upward bias in the SCC estimate.”
National Review — June 16, 2022
The GHG tax supposedly is a climate policy. But the proponents of GHG policies never tell us what impacts on the consequences of climate change are to be expected from implementation of GHG taxes, subsidies, and regulations. If we apply the Environmental Protection Agency climate model, and if we incorporate assumptions that exaggerate the future climate effects of reductions in GHG emissions, the Biden net-zero policy would yield a reduction in global temperatures of 0.173 degrees Celsius by 2100. The proposed GHG tax would yield only a portion of that trivial number. International efforts to reduce GHG emissions similarly would have very small effects. In short, a GHG tax, like almost all seemingly plausible climate policies, would be all costs and no benefits.
Watchful waiting and adaptation over time are the only climate policies that make sense scientifically, economically, politically, and in terms of the preservation of freedom.
IER’s Take
As the American Enterprise Institute’s Ben Zycher writes here, carbon tax advocates must be pressed to demonstrate what the benefit of their proposed policy is. Mere emissions reductions do not necessarily justify costly new policies and it is incumbent upon carbon taxers to show that the gain will outweigh the pain. For reasons to which Muresianu and Li briefly allude, this will be difficult to accomplish. The trivial temperature attenuation that a U.S. carbon tax could achieve makes that a feeble political selling point. Similarly, since the particularized harms projected to be caused by a warming world will not hit immediately, nor hit each country or state equally, voters are unlikely to view themselves as beneficiaries of a policy that imposes an immediate loss in the form of the new tax.
Try convincing an American seeing $5.00 gasoline at the pump that they should be paying 50 cents more per gallon in order to cool global temps by 0.173 degrees Celsius 78 years from now.
Betcha can’t do it.
