Tax or Trade? The Debate Heats Up

By Adam Brock

There’s no getting around it: if we want to avoid cooking up a fat slice of Earth pizza, the US government needs to enact some kind of carbon emissions legislation, and soon. But while everyone from corporate executives to state governors to the Chinese are calling on Congress to start regulating greenhouse gases, that’s where the consensus ends: the details of just how that regulation should be enacted have been the subject of intense debate in the past year or so. Most business leaders and politicians have come out in favor of some form of cap-and-trade system, whereby the government sets a cap on national emissions and polluters are issued tradeable permits. But there’s a vocal minority, one that includes Al Gore and Mayor Bloomberg, that rejects the market mechanism in favor of a tax on greenhouse gas emissions.

To shed some light on the tax/trade split, the NYC Bar association hosted a debate Tuesday morning on the issue, bringing policy experts from both sides of the fence to weigh in. Advocating for a cap-and-trade system were Jon A Anda, president of the Environmental Markets Network of Environmental Defense, and Billy Pizer, an IPCC member and senior fellow at Resources for the Future. Speaking in favor of the tax, meanwhile, were Carbon Tax Center cofounder Daniel Rosenblum and James P Barrett, the executive director of Redefining Progress.

The panelists explained that the most basic distinction between the two concepts lies in a tradeoff between price uncertainty and emissions uncertainty : a tax would provide a consistent price on carbon, but it wouldn’t be clear how much it would reduce emissions, whereas a cap-and trade system would guarantee the level of reductions but also create volatility in the price of permits.

The real meat of the debate, though, was in the details. With legislation this complicated, each and every provision will have profound ripples – this is, after all, the entire U.S. economy we’re talking about here. Whether it’s a tax or a carbon market, crafting the law carefully, in order to make sure that those ripples are positive, is what matters.

Pizer argued that that cap-and-trade regulation is can be constructed with more flexibility than a tax, and can thus be tweaked to give the best of both worlds. There’s a big difference, for instance, between implementing an “upstream” trade system, where permits are issued to fuel suppliers, or a “downstream” one which regulates the power plants. There’s also the issue of how to distribute the permits. Some versions currently being discussed in Congress give the first round away – essentially compensating polluters for the right to pollute. Both Pizer and Anda, though, favored auctioning off the permits, and returning the resulting revenue to low-income households or using it to fund investment in renewables.

Yet another controversy revolved around whether or not to set limits on the maximum and minimum trading price. This would serve to ensure that the economy isn’t hit with sudden shocks, with the downside that such a “safety valve” would prevent all the targeted emissions reductions from taking place.

In theory, then, a carbon market could be constructed that has just the right combination of incentives and protections to reduce emissions without destroying the economy. But with all these complications, it’s easy to see how a cap-and-trade scheme could get almost everything right and still fail miserably – just check out the EU’s toothless carbon market. Rosenblum and Barrett argued that any kind of market-based approach is prone to loopholes and exemptions that erode the system’s effectiveness.

In comparison, a carbon tax would be refreshingly transparent, as well as quick to implement and manage. An effective trade system would need to function much like a carbon tax anyway, covering the entire economy and allowing for some protection against price volatility – so why not cut to the chase? “It’s like making one right turn instead of three left turns,” explained Bloomberg in a speech to the US conference of mayors earlier this month. “You end up going in the same direction, but without going around in a circle first.”

Bloomberg might have a point, but in Congress, lawmakers are going around in circles like it’s their job. Besides John Dingell’s stiff-as-nails proposal that is, for all intents and purposes, a sad joke, each one of the bills being considered is some variation on a cap-and-trade scheme. For now, anything involving the t-word is considered politically impossible – although, as one of the audience members at the debate pointed out, “it’s only politically impossible until it becomes politically possible.” Given the rapidly shifting political landscape, getting a carbon tax proposal off the ground in the next couple years might just be a matter of savvy framing and a sympathetic President.

Still, if Congress can come up with a trading system that’ll get the job done, perhaps pushing for a tax is counterproductive. I came out of Tuesday’s debate feeling like it’s possible to make either a tax or trade system workable – the important thing is to get the details right. No matter what form it takes, carbon regulation is likely to be one of the most complicated and expensive pieces of national legislation ever crafted; it’s no exaggeration to suggest that the long-term viability of both the US economy and the global climate rest on its success. If the bill is too weak on greenhouse gas reductions, we risk sending the climate into a frenzy of feedback loops, warming the planet to unmanageable proportions. If, on the other hand, it creates too much of an economic disturbance, the backlash might lead to the whole thing being weakened or even repealed. As Barrett quipped at the close of the debate: “if we screw this up, we could end up with a revolution – but not the one we were hoping for.”

Tax or trade? It doesn’t matter to me anymore. I’m just hoping Congress thinks this one through. If they don’t, the planet might be in a sorry state by the time I’m John Dingell’s age.

Photo credit: flickr/captkodak

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Paying the Climate Bill, Equitably

By Nelson Harvey

The biggest question currently confounding the human attempt to deal with climate change is not one of technology or economics. Repeated analyses have shown that we can achieve substantial greenhouse gas reductions by ramping up existing technologies, for a fairly modest cost in terms of Gross World Product (GWP). Rather, the most difficult question facing us is one of ethics.

Who is responsible for dealing with climate change? This question is as old as the problem itself, and it evokes many muddy ethical issues. Should rich countries responsible for most of our greenhouse gas emissions be the ones to pay, or should rapidly industrializing nations like China and India also chip in? Such questions have undermined international agreement on the issue since the Kyoto Protocol was drafted in the late 1990’s.

But what if we could attack this seemingly subjective question quantitatively? An organization called Eco-Equity has taken an initial step in that direction by developing an index called the ‘Greenhouse Development Rights Framework.’ I saw Eco-Equity co-founder Paul Baer speak at the NYU Law School last week, where he explained the assumptions behind this new tool for allocating climate change responsibility.

Inequality of wealth is widely acknowledged as a cause of inaction on climate change, since no poor country wants to sacrifice their right to economic development to solve a problem caused by rich nations. Thus, Eco-Equity assumes that no global solution will work if it makes inequality worse. The Development Rights Framework reasons that people with incomes below a certain ‘development threshold’ (about $9,000 annually) should not be required to pay to address climate change.

The idea that poorer nations shouldn’t pay was incorporated into the Kyoto Protocol. But in allocating responsibility among individuals rather than nations, the Eco-Equity approach picks up on an important fact: It’s rich people, not just rich countries, who contribute disproportionately to climate change. Therefore, anyone with an income above the development threshold should be required to contribute, including rich people living in poor countries.

So how does this approach change the way we allocate responsibility? Take the case of China vs. the United States. China may be emitting more greenhouse gases than the U.S. at present, but becuase of historical emissions rates and per capita wealth, they are required to pay a relatively smaller portion of the bill than we are. For example, if the total cost of climate change were 1 percent of GWP, China would pay $42 billion to the U.S.’s share of $214 billion.

Given the historical role of inequality in limiting progress on climate change, the Eco-Equity approch assumes that dealing with it may be the key to a solution. As Baer put it when he spoke at NYU, rich people are the only ones with the means to deal with climate change. Unless they step up to the plate, it’s likely that no one will.

The Real Price of Oil: More than Just Carbon Emissions

In a recent post, Adam noted a neat new computer plugin called RealCosts, which allows the user to see the carbon footprint of various potential purchases. While this is certainly a heartening step toward an accurate accounting system for our purchasing decisions, it got me thinking that any computer widget that came close to calculating the actual cost of a product made with oil would have to account for a heck of a lot more than just carbon. Local pollution, infrastructure investments made with public dollars, and the exorbitant military cost of guarding oil from the Persian Gulf would all need to be factored in, as would the economic liability of markets dependent on the roller coaster of crude oil prices.

The price of gasoline doesn’t factor in hidden costs like oil spills

But what if all these things were considered? What would it do to the price of oil, and what would that mean in economic terms? Because of the many and complicated variables involved, estimates vary wildly, from an increase of a few cents per barrel to a jump of nearly $100. Resources for the Future economist Ian W.H. Parry wrote a 2003 paper that considered the economic impacts of air pollution, greenhouse gas emissions, traffic congestion and auto accidents. He found that all of these impacts aggregated could justify a gasoline tax of just over $1 per gallon, which is 2.5 times the current U.S. gasoline tax rate. Taking a narrower focus, transportation researcher Kenneth Small of UC Irvine has estimated that the additional illness and death generated by auto emissions in the Los Angeles Basin alone could add over 40 cents to the price of a gallon of gas, which translates to roughly eight additional dollars per barrel for the oil that it is derived from.

Auto emissions coat L.A. in a blanket of smog (from flickr/steven-buss)

Calculating the cost of carbon emissions is even more assumption-dependent than traffic congestion or smog, because it depends on a suite of variables including global emissions rates, climate sensitivity, the potential for extreme climate shifts, and the discount rate that you apply to the well being of future generations. Nevertheless, economists have lived up to their reputation in this realm and attempted to measure the seemingly un-measurable yet again. Wesleyan economist Gary Yohe told the Senate Foreign Relations Committee in 2006 that the average from about 100 estimates in the published economics literature was $11 per barrel of oil.
So we’ve broached about $20 extra per per barrel, all without even mentioning oil infrastructure or military costs. Obviously, accounting for these drives the price up further. Tax breaks and publicly funded ports and pipelines provided between $1.1 and $2.3 billion to the oil industry in 1995, according to a study for Greenpeace by economist Ted Kaplow. The largest tax break currently given to industry comes through something called “accelerated depreciation,” which allows companies to deduct capital expenses from their taxable income more quickly than capital equipment ages and becomes obsolete.
Tax exemptions granted to the Navy for harbor construction projects are borne by the public at large, but since harbors are critical transfer points from oil tankers to inland locales, they grant between $600 and $650 million a year in indirect subsidies to oil. Royalty relief for drilling on federal lands provides another several hundred million dollars in savings to oil companies annually.

Pipelines and other infrastructure represent a hidden form of subsidy for oil companies

For all the controversy over what to include when calculating oil subsidies, the cost that seems to infuriate both liberals and conservative hawks alike is that associated with guarding foreign oil as it makes its way from under their sand into our tanks. According to a 2005 study by the conservative National Defense Council Foundation, the military allocated about 49.1 billion for that purpose alone in 2003. The NDCF estimated that accounting for that along with all the other costs of oil could add more than $7 to the price of gasoline derived from Persian Gulf crude.

Protection of overseas U.S. oil supplies may have cost nearly $50 billion in 2003

If oil is underpriced, then what do we do about it? The clear answer is two-pronged: impose taxes and cut subsidies. Things like carbon taxes or congestion charging go part way toward accounting for the damages of oil, but an overarching tax is needed that incorporates all of its adverse impacts. Congressional Democrats have already begun chipping away at the subsidy side by attacking royalty relief given to companies who drill on public lands, and a recent bill from New York Congressman Maurice Hinchey, the “End Oil Aid Act of 2007,” goes much further in that direction. Clearly, no one knows precisely the correct surcharge to place on a barrel of oil, but as has been said many times before, the right number is not zero.

There is undoubtedly a role for consciousness-raising in this process; one can imagine a plugin to your web browser that calculates an oil surcharge for the product you’re checking out based the share of U.S. petroleum imports used to produce it. But given the immense complexity of attaching any hard numbers to the cost of oil, I think we can be encouraged that they’ve even done it for carbon emissions.

Warming to Clean Energy Part 3: The Obstacle Course

An Oil Platform

Despite the myriad indicators painting a positive picture for the future of clean technology, there are many bumps in the road ahead. Achieving large-scale competitiveness with fossil fuels will be much more difficult if Congress does not pass carbon legislation, since people in more carbon intensive industries are working furiously to bring new electrons to market. Saudi Arabia has about 25 percent of global proven oil reserves under its sands, and could continue supplying oil at current rates for 90 years. The country maintains a level of spare capacity that could allow the Saudis to engineer a price collapse if expensive oil continues to encourage renewable technology. Even if the world moves away from Middle Eastern oil, private companies have achieved advances in the technology of oil extraction that make previously uneconomic deposits in places like the Gulf of Mexico look very attractive. Many in the industry also believe that they can increase the rate of recovery from existing wells from 30 percent to 50 or 60 percent within a decade, a jump that would augment global reserves substantially. Vijay Vaitheeswaran, a correspondent for The Economist magazine, notes in his forthcoming book “Zoom” that although BP and Shell are spending about 2 billion per year on renewable technologies, each is spending around $15 billion per year on oil, and this ratio is typical of major oil companies.

An oil sands mining operation

Perhaps the most ominous threat to the future of clean technology lies in a range of carbon-based alternative energies that will become economically viable if oil prices stay high. Notable here are the coal bed methane deposits in the American west and the tar sands in Alberta, Canada. Both of these sources are incredibly resource intensive to produce, and could effectively undo any reductions achieved by carbon legislation if burned on a large scale. Nevertheless, interest in these fields is growing: Peter Tertzakian of Canadian investment firm ARC Financial estimates that investments in the Alberta tar sands in the coming years will add up to around $60 billion.

Which energy technologies will prevail?

These examples serve to illustrate that rising oil prices do more then benefit clean technology: they drive oil exploration and investment in climatically reckless fossil-based alternatives. Whether the cleaner path will win out remains an open question; companies and countries are pumping money into fuel cell research even as they shore up petroleum reserves. Steering the energy future in a greener direction will take political leadership. The core purpose of government is to direct its resources toward development that serves the best interests of society: and nothing would serve those interests more than the advancement of clean technology.

Warming to Clean Energy Part 2: The Politics

 

 

 

         

The coalition supporting a cap on carbon emissions includes environmentalists, religious people, farmers, and national security hawks

As attractive as the economics of clean energy are becoming, they would look vastly better with a single political development: the passage of a legislative cap on carbon emissions in the United States. This statement is evidenced by Russia’s experience in 2005, when that country ratified the Kyoto Protocol. Over the course of the next year, the value of clean energy companies in countries that had ratified Kyoto jumped 68 percent compared to those in non-ratifying countries. Political support for a limit on carbon in the U.S.–likely to be executed through a cap-and-trade scheme where polluters could purchase credits from less polluting companies–has reached unprecedented levels in the United States, as the flurry of bi-partisan legislative proposals under discussion in Washington demonstrates.

Temperature trends over the past 1000 years

The Fourth Assessment Report of the Intergovernmental Panel on Climate Change, released in February 2007, stated, “Most of the observed increase in globally averaged temperatures since the mid-20th century is very likely due to the observed increase in anthropogenic greenhouse gas concentrations.” Several legislative proposals now on the table in Washington aim to address human emissions through some form of cap and trade system. All the proposals with strong support would stoke the fires of investment in clean technologies, but the McCain Lieberman-sponsored “Climate Stewardship Act” could be most effective in this regard. The bill would cap nationwide emissions at 2004 levels by 2012, and require reductions of 2 percent per year until 2020. The bill avoids California Senator Diane Feinstein’s approach of regulating individual industries, and thus somewhat diffuses claims of unequal regulation from one economic sector to another. Also, if emissions allowances are auctioned off rather than given away, the U.S. could avoid the problems of the European system has encountered with over-allocating credits and thus watering-down emissions targets.

At the end of the day, the future of clean technologies may depend on whether backers of emissions legislation can muster the needed votes in congress. On this front, there is reason for optimism. It is a basic lesson of politics that people often matter more than numbers, and the personalities involved in an issue can sway it far more than economic calculations. This bodes well for clean energy, because the parties currently advocating for a cap on carbon are as diverse as they are vocal. Former CIA Director and energy independence advocate James Woolsey describes the group as a coalition of “tree-huggers, do-gooders, sodbusters, and cheap hawks.” These parties have particular potential to spark change because they each represent a core American political lobby–agriculture, national defense, religion, environmental protection–but they are united around the climate theme. If the economics alone are not enough, the growing support of the American people is likely to keep clean technology on the national agenda for a long time to come.