Further thoughts on the carbon tax.

This post is in response to feedback from my previous post on this topic.


There are no panaceas.

But as abstract ideas go, pollution taxes are pretty appealing. Holding constant lots of things that we can’t really hold constant, it means replacing the inefficiency resulting from poorly defined/enforced property rights with a world where prices more accurately reflect the costs of one’s decisions.

Let me come back to the things we’re “holding” constant in a bit. Why do I want to throw my weight behind shifting public perceptions in favor of pollution taxes?

I think they’re underrated by the median voter. Climate change is just a subsidy paid in the form of worse conditions. But most people (including people who should know better) don’t have a good understanding of the problems caused by subsidies.

Which is not to say a carbon tax isn’t overrated by the median policy wonk. There are a ton of important caveats, but on balance, as a policy for use in the next 50 years, I think they’re a useful tool to enhance efficiency or replace worse tools.

Again, there are no panaceas. I’m also not a huge fan of the “Economists’ Statement on Carbon Dividends” as written (for reasons I’ve hopefully mostly addressed). I suspect the best case scenario for my preferred carbon tax policy would be a modest improvement. I think the bulk of the gain would be a cultural shift away from “let’s regulate our problems!” to “let’s leverage incentives to address our problems!” Not Earth shattering, but a step in the right direction.

So let me state my position, then we can dig into criticisms and caveats.

Let’s make marginal shifts away from taxing investment and towards taxing negative externalities. As we go, let’s spend a lot of effort trying to study the impacts and adjust accordingly. Let’s heavily agument that with abatement policies rather than trying to return to some pre-industrial climate target.

Okay, let’s dig into criticisms and caveats.

  1. Public choice considerations
  2. Geoengineering and other alternatives
  3. Cost
  4. Coordination
  5. Uncertainty

1-Public choice considerations

A Green New Deal will be a rent-seeking bonanza. Pollution taxes will face the same sorts of problems that plague the tax code in general. There will be intentional loop-holes and accidental screw ups.

We have to continue to push for reducing the complexity of tax codes in general. But I can’t deny that a carbon tax would be a step back on this margin.

Minus a hundred points for my position.

2-What about geoengineering?

Geoengineering sounds like a possible panacea. Maybe it is. But I’m not willing to flip a switch and find out the hard way all at once.

First off, geoengineering is scary. The climate is a complex system and complex systems are difficult-impossible to manage well. And that’s especially concerning if it means that anyone with a few million bucks can try to fiddle with Earth’s thermostat.

But it seems like a plausible tool that might be used to address climate change. Similar to my take on a carbon tax, I think the way to go is baby-steps plus research.

What about subsidizing “green _____”

Personally, I’m skeptical. Solar sounds appealing, and I (personally) think windmills are beautiful. But I don’t think the government will do a good job of picking winners and losers. Pollution taxes are appealing to me because they don’t require bureaucrats to choose. Again, I think the way to go is to use pollution taxes to offset other taxes–while continuing to advocate for reduced size/scope of government and a return to federalism.

Plus five points for my position.

3-Cost

We should also remember that GDP is an imperfect measure of well being. The current figures aren’t directly comparable to the figures we’d get in a post-carbon-tax world. A one-time fall in GDP doesn’t (necessarily) mean we’ve screwed things up.

A tax big enough to halt climate change would be incredibly costly. Too big a tax yields a negative net benefit.

Still, it’s worth remembering that a) we can go too far with a carbon tax, and b) we don’t have access to a silver-bullet solution. So let’s start small and gradually increase carbon taxes till we get close to (our best estimate of) the optimal level.

Plus epsilon points for my position.

4-Coordination

The basic idea of a carbon tax is that we’re dealing with a global-scale externality problem. But small scale taxes are unlikely to do much beyond shifting where pollution happens. A fully effective tax would require multi-lateral coordination. And, as a country, we aren’t very good at that.

Trying to create a tax on imported carbon-intensive goods that didn’t face a tax at home seems a) sensible at first blush, and b) a massive opportunity for public choice problems.

On the other hand, we could justify a tax commensurate with the local impacts (something like 10% of the global impact). This fits nicely with my idea of starting small and adjusting at the margin.

But even within the U.S. there are coordination issues. Long Island will likely face net costs from climate change, but other areas will benefit from a longer growing season.

Plus 10 points for my position, but also minus 10 points.

5-Uncertainty

Uncertainty cuts both ways: we’re currently accidentally manipulating the climate and that could turn out to be catastrophic. Trying to intentionally manipulate it in the other direction is also dangerous. Again, the appropriate focus is on marginal tinkering [much as it clashes with my non-interventionist priors] rather than ambitious global engineering [which grabs my priors by the lapels and knees them in the groin].

When I teach externalities, I draw a graph like this:

Negative externalities when we magically know their magnitude.

In this market, we end up with an equilibrium quantity defined by the point where Marginal Private Cost equals Marginal Social Benefit (MPC = MSB). But the Marginal Social Cost (MSC) is greater, so we get a deadweight loss equal to the triangle I’ve shaded in red and purple.

It’s important to note: we don’t actually know where the MSC curve is. It’s somewhere above MPC, but we’re basically in the position of trying to eliminate a subsidy we don’t know the size of.

The relevant models–climate models and economic models–are filled with uncertainty that we simply cannot resolve without real life experience.

What does the economic way of thinking tell us? Act on the margin. Setting a tax that pushes supply (MPC) up to the green line doesn’t fully address the problem (as I’ve assumed it to be in this graph), but it’s an improvement.

Even better, it’s an improvement where the biggest returns are experienced up front. This modest tax fails to get rid of the red deadweight loss (DWL) area, but it eliminated 3/4 of the total DWL.

Plus X points for my position where X is a random variable with an unknown distribution, positive first derivative, and negative second derivative.

tl;dr:

At my friend’s behest I’ve been looking at Bob Murphy’s critique of carbon taxes. I find it’s shifted the magnitude of my prior opinion, but not the direction. I still think carbon/pollution taxes are a good idea, but I no longer think they’re a great idea. My take away from Murphy’s work is that the optimal carbon tax is fairly modest. My response is to advocate for getting a very modest carbon tax on the books, then gradually shift tax policy in that direction.

For climate change (and any other problem) we ought to be pluralists. A mix of approaches is ideal. Part of the appeal of Pigouvian taxes is that they allow and encourage a wide range of responses. The best pollution abatement scheme isn’t something we can look up in a binder. We have to discover it, and crowdsourcing is the appropriate way to do that.

But carbon taxes are only one part. We should also advocate for changes that will ameliorate harm. I am more bullish on these policies than I am on a carbon tax:

  • Make it easier for the world’s poorest people to move to rich countries that will be better able to cope with climate change.
  • Quit subsidizing flood insurance.
  • Quit subsidizing polluting industries (and other industries).

Even though geoengineering scares me, we should try to learn more. Ditto for any other possible tools that come along.

One thought on “Further thoughts on the carbon tax.

  1. […] The big caveat is that although GDP is the best available metric to pursue, GDP is an imperfect measure. Figuring out “GDP, properly understood” adds a layer of complexity that makes policy evaluation all the more difficult. Which is part of the controversy with my recent posts on pollution taxes. […]

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