Economic and environmental effects of a carbon tax

Getting back to previous posts, the implementation of carbon tax could be a good policy to reduce CO₂ emissions and thus, to tackle climate change. There is even, some theoretical and empirical literature suggesting than an efficient use of revenues from this tax could bring economic benefits too. The achievement of economic and environmental benefits would sustain the ‘double dividend’ hypothesis of environmental taxation.

A detailed dynamic energy-environment-economy model has been developed in the context of the METRES project, funded by Marie Sklodowska-Curie Actions of the European Commission (H2020 research program). We have added some specifications to this model to test the environmental and economic impacts of a carbon tax in Spain.

Three different taxes have been simulated: 10, 20 and 30 €/ton of CO₂. In order to test the ‘double dividend’ hypothesis, we have recycled the government revenues obtained from the tax to reduce other pre-existing taxes: (1) a scenario with no recycling, (2) a scenario with reducing taxes on capital; (3) a scenario with reducing taxes on labor, and (4) a scenario with reducing taxes on value added. After running the model with these scenarios, we have compared simulations with the base case outcome.

 

Fig 1. Percentage variation in GDP under different carbon taxes and tax recycling options.

 

Figure 2. Percentage variation of CO₂ emissions for different carbon taxes.

Figure 1 and figure 2 show that an economic and environmental benefit can be achieved for low carbon taxes, by recycling revenues in other pre-existing taxes, such as capital, labor and value added taxes. However, there are costs the first years of implementation. The implementation of a carbon tax of 20€/ton and reducing at the same time capital and labor taxes would reduce carbon emissions around 17% annually with no or very low cost in terms of GDP, after the first years of implementation. The most costly option is to not recycle revenues.

An extensive article, describing the model, results and implications of the research, have been prepared and it is going to be submitted soon to a scientific Journal.