Analysis of U.S. Greenhouse Gas Tax Proposals

Abstract

The U.S. Congress is considering a set of bills designed to limit the nation’s greenhouse gas (GHG) emissions. Several of these proposals call for a cap-and-trade system; others propose an emissions tax. This paper complements the analysis by Paltsev et al. (2007) of cap-and-trade bills and applies the MIT Emissions Prediction and Policy Analysis (EPPA) model to carry out an analysis of the tax proposals. Several lessons emerge from this analysis. First, a low starting tax rate combined with a low rate of growth in the tax rate will not reduce emissions significantly. Second, the costs of GHG reductions are reduced with the inclusion of non-CO2 gases in the carbon tax scheme. The costs of the Larson plan, for example, fall by 20% with inclusion of the other GHGs. Third, welfare costs of the policies can be affected by the rate of growth of the tax, even after controlling for cumulative emissions. Fourth, a carbon tax – like any form of carbon pricing – is regressive. However, general equilibrium considerations suggest that the short-run measured regressivity may be overstated. A portion of the carbon tax is passed back to workers, owners of equity, and resource owners. To the extent that relatively wealthy resource and equity owners bear some fraction of the tax burden, the regressivity will be reduced. Additionally, the regressivity can be offset with a carefully designed rebate of some or all of the revenue. Finally, the carbon tax bills that have been proposed or submitted are for the most part comparable to many of the carbon cap-and-trade proposals that have been suggested. Thus the choice between a carbon tax and cap-and-trade system can be made on the basis of considerations other than their effectiveness at reducing emissions over some control period. Either approach (or some hybrid of the two approaches) can be equally effective at reducing GHG emissions in the United States.