Carbon Tax or Carbon Market?

Excerpt from David Ray Griffin, Unprecedented: Can Civilization Survive the CO2 Crisis? (Clarity Press, 2015)

The world’s two best-known climate economists – William Nordhaus of Yale University and Nicholas Stern of the London School of Economics – disagree radically on most issues. But they agree on one issue: The most effective policy for slowing global warming would be a price on carbon. There are, however, two different ways of setting a price: a carbon tax or a carbon market. Nordhaus and Stein even agree that a carbon tax would be better. But as Patrick Bond has recently pointed out, most of the nations have chosen a carbon market, “in spite of widely-acknowledged market failure in the emissions trade, especially in Europe.” The excerpt below points to reasons why agreement on a carbon tax would be better.

The Need for a Carbon Price

Nicholas Stern has said: “The problem of climate change involves a fundamental failure of markets: those who damage others by emitting greenhouse gases generally do not pay.” Of course, the expenses must be paid, so they are paid by society – the costs are “socialized.” Each fossil-fuel corporation thereby gets a tremendous benefit – getting to dump its waste into the atmosphere for free. And so the pollution continues.

The way to fix this market failure is to internalize the “social cost of carbon,” meaning the total costs to society from the burning of fossil fuels. This solution is common to economists, so it is not surprising that Stern and Nordhaus agree on this point. Internalizing the price means putting a price on carbon, thereby making it part of the market. “Putting an appropriate price on carbon,” explained Stern,

means that people are faced with the full social cost of their actions. This will lead individuals and businesses to switch away from high-carbon goods and services, and to invest in low-carbon alternatives.

Similarly, Nordhaus said that “the single most important market mechanism that is missing today is a high price on CO2 emissions, or what is called ‘carbon prices.'” A price on carbon, he explained, provides “strong incentives to reduce carbon emissions” by making things and services with high carbon content more expensive. All those concerned with climate change can be grateful to Nordhaus for having made this argument for the past four decades. “If we actually did what Bill proposed in the late ’70s,” said Stanford University’s John Weyant, “we’d be so much better now.”

This method, in which carbon fuels (such as coal) are charged per unit of carbon, is far more efficient (as well as simpler) than the quantitative method, which was adopted at Kyoto. When this approach “proves ineffective and inefficient,” Nordhaus said, policy makers “should consider the fact that price-type approaches like harmonized environmental taxes on carbon are powerful tools for coordinating policies and slowing climate change.” Calling global warming “the Goliath of all externalities,” Nordhaus said that “placing a near-universal and harmonized price or tax on carbon is a necessary and perhaps even a sufficient condition for reducing the future threat of global warming.” In what are arguably Climate Casino’s best chapters (19-21), Nordhaus explained why in three points.

• With a significant price on carbon, all goods and services with high carbon content will be more expensive, thereby encouraging customers to use fewer of them.
• A significant price will also encourage producers, in order to keep their profits up, to switch to materials containing little or no carbon – such as generating electricity from wind and solar energy rather than coal, oil, or natural gas.
• Significant carbon prices “will give market incentives for inventors and innovators to develop and introduce low-carbon products and processes to replace current technologies.”

Carbon Tax or Carbon Market?

“Whether someone is serious about tackling the global warming problem can be readily gauged,” said Nordhaus, by listening to what he or she says about the carbon price.” But there are two quite different ways of setting a price. “A carbon tax fixes the price of carbon emissions and lets the quantity fluctuate. While a carbon market, which operates in terms of the method known as cap and trade, “fixes the quantity of carbon emissions and lets the price fluctuate.”

Each method has its strengths and, therefore, its supporters, both among economists and countries. But the carbon tax is far superior, as explained in recent publications by Harvard’s Martin Weitzman, who argues for an “internationally harmonized but nationally retained carbon tax,” which is supported by two Stanford University scholars. They provide many reasons the carbon tax is far better, four of which are:

• Whereas a trading system allows for extreme carbon price volatility, which can discredit the whole idea of a market-based approach, a carbon tax prevents such volatility, which weakened Europe’s Emissions Trading System (ETS). (By 2012, the ETS had “essentially collapsed“; by 2013, its carbon permits were called “worse than junk bonds“; and by 2014 the market, which put the carbon price at 6 pounds a ton, was called “worse than useless.)”
• “The revenues from an internationally harmonized carbon tax are retained internally within each nation,” whereas that is not the case with cap-and-trade revenues.
• A “carbon tax is more easily administered and more transparent than a cap-and-trade system,” which will be “especially important in a comprehensive international context that would include all major emitting countries.”
• A carbon market is a “great temptation for kleptocrats to steal these valuable emissions permits and sell them on the international market,” which has occurred: The International Criminal Police Organization (Interpol) revealed that the $176 billion carbon market has become a magnet for organized crime.