The Fraser Institute in Canada recently released my study critiquing the province of Albertas approach to carbon pricing. My analysis for Fraser confirms what Ive been arguing here on the pages of IER for years: in the United States, conservatives and libertarians should run from any carbon tax deal that promises to shrink the size of government while battling climate change. No matter their promises, in practice government-imposed carbon pricing schemes never live up to the guidelines for efficiency laid down by their proponents. In this post Ill illustrate myth vs. reality in the case of Alberta.
The Climate Leadership Plan (CLP)
As I explain in my Fraser study, the province of Alberta implemented a Climate Leadership Plan (CLP) in November 2015. It included a carbon tax (at CA$30/ton which will increase to $50 by 2022).
Yet the CLP includes more than just a mere price on carbon. It allocates a third of the carbon tax revenue to green investment projects, designed to promote a transition to a low-emission economy. It also includes specific climate objectives, such as an annual cap (100 megatons) on oil-sands emissions, and phasing out coal-fired electrical generation by 2030.
The CLP Fails on Textbook Carbon Tax Reform
Even if we stipulate the standard argument for a market-based carbon tax reform, the CLP fails on several fronts. First, it is not revenue neutral, even though its official websitein a move that would warm George Orwells heartproudly proclaims that it is. To support this claim, they are merely reinventing definitions, such that revenue neutral means the government will spend all the money in some fashion. Some of the money is rebated to households, but (as I explained in the previous section) a third or so is earmarked for green projects. This is of course not what revenue neutral means.
A second problem is the specific objectives superimposed on top of the carbon tax. In principle, a carbon tax levied at the correct level is supposed to internalize the externalities and correct the market failure of greenhouse gas emissions. It is redundanteven on the terms of the carbon taxersto levy specific mandates on top of this external price. In my study, I referred to another Fraser publication that estimates that the cap on oil-sands emissions would reduce emissions at a marginal cost of more than $1,000 per metric ton! That is about 20x the standard estimates of the social cost of carbon, which shows these policies have little to do with the scientific case for pricing carbon.
The Problem of Leakage
Yet even the basic concept of a carbon tax levied at the provincial level is quite dubious. The problem is what economists in the literature refer to as leakage, where businesses and households can (over time) shift their emissions out of regulated jurisdictions into regions where there are lower (or no) government constraints on emissions.
For example, suppose the province of Alberta implemented a draconian $500/ton carbon tax, and enforced it ruthlessly. That would certainly cause measured emissions from Alberta to fall quickly, and after a decade (say) of this new regime, we would expect to see very low emissions from the province.
However, that doesnt mean global emissions would have fallen the same amount, relative to the original trend. This is because many Alberta residents (or those who had been considering moving there) would avoid the province, because they wouldnt want to live in a region with such high taxes on gasoline and electricity.
When all was said and done, the effect of a draconian carbon tax levied just in Alberta would be to wreck the Albertan economy, while having little long-run impact on global carbon dioxide emissions. Indeed, to the extent that some manufacturing operations relocated out of Alberta and into China, you might see emissions (for those operations) increase, since foreign production is often more carbon-intensive.
The way to incorporate the above reasoning into the standard framework is like this: When computing the social cost of carbon, analysts are implicitly considering a globally enforced carbon tax. Thats really the only way to make sense of the number, even on its own terms. But instead when we ask, What should the optimal carbon tax be at the provincial level? we have an entirely different situation. Even if we stipulate the standard approach that justifies carbon taxes, the actual size is much lower than the social cost of carbon when we are talking about small jurisdictions.
If Canadian provinces (or U.S. states) implement a regional carbon tax, they shouldnt fool themselves that they are doing the right thing. Even on their own terms, the most they can argue is that they are sacrificing their own economies through a symbolic gesture that by itself isnt worth the cost, but which might encourage others to follow suit. Yet if framed that way, most of the public would run for the hills.
In this post I have focused on Albertas Climate Leadership Plan (CLP) and shown how it fails to live up to the promises of those selling a carbon tax reform package. In practice, a carbon tax will not be revenue neutral, and it wont be set at the correct level as determined by academics. Households and businesses will suffer from higher energy prices and slower economic growth, with very little to show for it in terms of environmental benefitseven stipulating the basic framework of human-caused climate change.