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Why revenue-neutral carbon taxes are superior to cap and trade schemes

Steve Darden over at the Seeker Blog has a great post on why carbon taxes are superior to cap and trade schemes. He argues (quite convincingly) that we need polices that provide incentives for us to move to a low-carbon economy today, not at some point in the future, and the only way to achieve that (absent massive regulation and quotas) is to price carbon.

Non-economists will probably always be uncomfortable with using indirect instruments like prices, just as patients may wonder how little yellow pills can cure their disease. Nonetheless, the fact that prices are more indirect than quantity restraints should not prevent us from recognizing their superior power as a coordinator and motivator for global warming.


Both carbon taxes and cap and trade schemes are means to that end, but carbon taxes can be implemented quickly with little administrative costs, while cap and trade schemes will create an ‘administrative monster’ that is highly susceptible to corruption. This should be enough to scare away any real small ‘c’ conservative from seriously considering a cap and trade scheme (Harper, McCain are you listening?), but carbon taxes have the added benefit of price predictability (we know exactly what the tax rate is and what it’s growth rate is), while cap and trade will only lead to massive price volatility.

A revenue-neutral carbon tax scheme can be implemented with nearly zero administrative cost — existing tax collection and auditing channels are almost all that is required to implement a new tax schedule. The price mechanism allows each investor to confidently plan for her future cost of emissions. The carbon tax option gives us certainty of future costs, transparency, and low transaction costs associated with the carbon pricing.

The opposite of certain is what we get with the quantity mechanism of cap-and-trade. The investor faces a volatile, uncertain profile of future emissions costs. The ETS [Emissions Trading Scheme] experience has demonstrated great volatility. Volatility is the enemy of what we urgently need — that is fast decisions to stop building dirty coal power generation, substituting the larger capital investments required for low- or zero- carbon plants.

The cap and trade scheme creates a new administrative monster that will be impossible to kill off once it gets going. Envision an apparatus ten times bigger than the Dept of Agriculture. Do not forget that cap and trade requires measuring and auditing reported quantities of emissions. Cap and trade will create a rich growth medium for rent seeking — which leads inevitably to corruption.

And just in case you aren’t yet convinced, the Financial Post (not exactly known for its green credentials) has an article on a report from senior economists at Toronto-Dominion Bank calling for Ontario to implement a carbon tax to revitalize its economy.

The carbon tax is needed because the money raised would be deployed to make much-needed cuts to Ontario’s business and personal tax regime, argue Don Drummond and Derek Burleton in a 23-page report.

And yet Harper wants us to believe that a carbon tax would kill Canada’s economy. For shame!

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