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Tax Me Baby One More Time!

What is the right carbon tax?

I contemplated a number of doom and gloom topics for my post this week. Under consideration were the $400 proposed rebate for each car owner (bad idea!), Germany’s refusal to stop importing Russian fossil fuels (was ist denn bitte los?) or the finalization of the latest fuel economy rules (yay-ish!). But since we do not talk about or recommend carbon taxes enough on this blog I will talk about a paper that made me think harder about what the level of an optimal carbon tax is. 

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Quick refresher. Most things we do emit greenhouse gases and most of us use the atmosphere as a free dumping ground. Basic economics suggests that you should pay for the full cost of your wasteful activities. The optimal carbon tax is supposed to be set at a dollar/yuan/euro/rupee/peso amount that is equivalent to the damage each ton of carbon does at the optimal level of emissions. Or in simpler terms, if your factory dumps gunk into a lake that causes $100 of damages to everything in and everyone around the lake, the tax should be set at $100. Yes, dynamics, uncertainty blah blah blah, we can complicate this any way we want, but the question is, what is the actual dollar amount we should set the carbon tax to?

One candidate has been derived from the so called Social Cost of Carbon (SCC) literature, where we run abstract integrated assessment models and try to calculate the damages one ton emitted does over its lifetime to as many sectors as we can model. To make a long story short, the SCC for a ton of CO2 emitted in 2020 is $52 according to the Biden Administration’s latest estimates. But this is a number that is calculated based on a long list of strong assumptions. 

Another way to get a number is to ask the experts. There is a formal scientific technique, which is called expert elicitation. You basically figure out who knows a lot about a topic and you ask them well phrased questions. Drupp, Nesje and Schmidt did just that moments before the pandemic shut down normalcy. What do they do?

They used algorithms to construct a list of authors that have at least two pertinent and cited publications during this millennium. So nerds like me got surveyed, but it is worth noting that only about half of the respondents were people publishing in economics (which is neither flattery nor criticism). They nagged and nagged and nagged until they got a pretty impressive response rate. Their sample contains responses from all major continents, and the represented countries cover more than 80 percent of global CO2 emissions. Really cool. They then set out to tabulate their results. 

The exact first question asked was: 

“Suppose that a “world government” exists, which seeks to maximize the well-being of all present and future people and plans to implement a uniform global carbon price (measured in real US dollars per ton of CO2). Which carbon price would you recommend to the “world government” for the years 2020 [X], 2030 [X], and 2050 [X]? Which range of carbon prices would you still be comfortable with recommending for the years 2020 [X] – [X], 2030 [X] – [X], and 2050 [X] – [X]?”

The first three panels in the figure below show the distribution of the stated optimal carbon tax by the solicited experts for the year 2020, 2030 and 2050. The fourth panel zooms out (like on your iphone when trying to squeeze the whole family into your holiday picture) on the results for 2050 (look at the much larger scale on the vertical axis). 

drupp

There is a lot going on here. The dots indicate individual survey responses. The “X” indicates the average value, the horizontal black line the median, the vertical box the interquartile range and the blob is a kernel density of the survey responses to better visualize the distribution. If you read the paper carefully, the authors dropped a few implausibly high numbers from this figure, but report the full results in the appendix. 

The first thing to note is that the average recommended carbon tax in 2020 is $50, $92 in 2030 and $224 in 2050. The 2020 estimate is almost identical to the SCC that all Federal Benefit Cost Analysis uses. More on that later. The mean advised tax here, however, rises much more quickly than the SCC does for Federal Rules (e.g. the SCC for 2050 in the Federal Rules is $85). When we look at the median numbers, which are more “robust” to extreme expert responses, the numbers for 2020, 2030 and 2050 are $40, $70 and $100 respectively, which is much closer to the SCC numbers currently in use. 

The authors then slice and dice the data summarized in the following four (there are a few more in the paper) findings, which I am just throwing out there. 

  1. There is a strong consensus among experts that a uniform global carbon price should be higher than the existing global average carbon price (today it’s higher in some places, but essentially zero in most).
  2. While there is significant spread in the distributions of stated prices, most experts are in general agreement about short-and medium-term global carbon prices. What this suggests is that experts are not “all over the place”, but that the overall suggested ranges line up reasonably well. 
  3. This one is tricky to condense, but when asked to advise their national governments on what carbon price they should impose unilaterally (assuming that not everyone else does so too), they find that these tax recommendations are higher compared to the same expert’s recommended global carbon tax. This is not consistent with the notion of “free-riding” by one’s own government, where one would expect a lower price. 
  4. When the experts were asked to consider a scenario where border carbon adjustments were introduced (meaning if you impose a carbon tax domestically and other countries want to sell into your market, they have to pay your carbon tax that you collect), this resulted in higher unilateral carbon price recommendations. This is consistent with an expectation that other governments will free ride.

The paper goes on to unpack the survey responses in an impressively large number of ways, but the one thing most policy makers will focus on is the $50 number – without a doubt. Some will find it way too low (hej Sverige!) and others will find it unacceptably large as it is not zero (howdy Texas!). That does not worry me at all. It is very nice to see what the consensus figure amongst responding experts across the world is. But assuming for a moment that I am such an expert and was asked that question, I would provide a number pretty close to the official SCC estimate provided by the Federal Government ($52). I would not be surprised if many of my peers would do something similar. We are awaiting, with bated breath, a new estimate of the SCC, which I am willing to bet my spouse’s EV on, is going to be higher. I would love for the authors to conduct a follow up study a little while after the release to see whether experts anchor their beliefs around these all important official figures. 

This is a very nice paper, but any expert elicitation is done conditional on the current state of knowledge. If that knowledge changes, it would be cool to see if that stated optimal carbon tax does as well. And yes, we should tax carbon everywhere.

Keep up with Energy Institute blogs, research, and events on Twitter @energyathaas.

Suggested citation: Auffhammer, Maximilian. “Tax Me Baby One More Time!” Energy Institute Blog, UC Berkeley, April 18, 2022, https://energyathaas.wordpress.com/2022/04/18/tax-me-baby-one-more-time/



Maximilian Auffhammer View All

Maximilian Auffhammer is the George Pardee Professor of International Sustainable Development at the University of California Berkeley. His fields of expertise are environmental and energy economics, with a specific focus on the impacts and regulation of climate change and air pollution.

16 thoughts on “Tax Me Baby One More Time! Leave a comment

  1. Max,
    You may have buried the lead. The news here is that “experts” care more about limiting temperature increase to a “consensus” target than they do about welfare of their country’s residents.
    Relatedly, the paper’s conclusion–“we find little evidence of free riding”—is misleading. The paper only shows that a sample of “experts” (presumably more evangelic than a random sample of economists) would hypothetically not advise their governments to free ride.
    Jim

  2. From Jim Lazar “Now, if we could convert substantially ALL costs of driving to a variable cost (as smart rate design does for electricity), then people would be facing a variable charge of about $1/mile, and we might see some movement.”
    In that case we should also see all transit start to pay their real costs. This would mean BART fares would at minimum double with much bigger increases for new construction, such as the new section from Fremont to San Jose. It makes no sense to charge one form of transport real costs and then ignore the cost of other transport. This would then find the most cost-effective form of transport including environmental damage.

  3. A couple of points. The spiking of the EU allowance price isn’t very indicative of investor/consumer behavior to a high carbon price. The EU ETS only applies to industry and utilities only (45% of emissions). In addition, covered industries continue to receive significant free allowances purportedly to provide protection against free riders. This blunts the incentive to conserve, substitute and innovate. Establishment of the EU Carbon Border Adjustment Mechanism (CBAM) along with the UK, Canada, US and Japan and termination of the free allowances would likely elicit greater industry conservation and clean energy substitution.

    With regard to the impact on automobile decisions, most behavior research is based on market prices which fluctuate and have increased relatively little in real terms over the decades. Short term gasoline price movements are not sufficient for policy decisions. There is very likely a big difference in consumer response to fluctuating gasoline market prices and a predictable visible rising carbon tax. The early research on British Columbia’s carbon tax impact found that tax salience was significant and response was 3-4 times greater than fluctuating gasoline market prices. Recent modeling has indicated that electric vehicle purchases (upfront cost) will also be stimulated by a visible carbon tax. If the impact is insufficient, complementary regulatory measures are justified.

    • A paper by Chris Knittel, then at UCD, on the tradeoff in fuel economy and horsepower found that the CAFE standard was not binding on vehicle purchases and increasing efficiency before 1984. The steadily rising prices from 1973 induced all of the fleet efficiency gains until prices collapsed in 1984.

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