Tuesday 11 October 2016

Climate policy advisers need to take into account the real world trade-off between economic efficiency and political acceptability

Here is my response to fellow economists who seem unwilling to take into account this trade-off when giving climate policy advice. It appeared in Policy Options on October 11, 2016. The text is also given below:

Last week, the House of Commons endorsed the Paris climate agreement, under which Canada commits to reduce greenhouse gases by 30 percent below 2005 levels by 2030. Simultaneously, Prime Minister Justin Trudeau abandoned hope that each province would voluntarily implement policies to achieve the national target. He said the federal government would, if necessary, impose a national charge of $10 per tonne of carbon dioxide in 2018, rising to $50 by 2022. After a year of niceties, realpolitikhas arrived.

It is encouraging that Canadian governments increasingly acknowledge that effective climate policy requires a carbon price or equivalent regulations to reduce our use of coal, oil and natural gas. But this does not make the task easier. In September, I and my co-researchers Tiffany Vass and Mikela Hein released a report in which we estimate that Canada’s carbon price must reach $200 by 2030, if it is to be the dominant policy for achieving the Paris target. (This week we analyzed Trudeau’s proposed carbon price. If the price remained at $50 from 2022 to 2030, emissions would fall 12 percent. If it rose to $100 by 2030, they would fall by 17 percent.)

Relying entirely on emissions-pricing to reach our targets is a tough sell, because a $200 carbon price would increase the price of gasoline 45 cents per litre in just over a decade. Many people won’t grasp that as they switch to already-available electric, plug-in hybrid and biofuel vehicles, they will not be paying the high carbon price. And while economic impacts can be minimized if the government returns carbon revenues through income tax cuts, many people won’t see the correlation. Hence the political challenge.

This explains why, in our September report, we suggested that economists could help real-world climate policy implementation if they analyzed the costs of other policies that have successfully reduced emissions, especially the flexible regulations that have been dominant in activist jurisdictions like California. But in a recent article, members of Canada’s Ecofiscal Commission Don Drummond, Nancy Olewiler and Chris Ragan rejected our proposal.

First, they claimed that I and my colleagues don’t see the higher costs associated with carbon emissions regulations “as much of a problem.” This misrepresents our challenge to economists to estimate how flexible regulations like clean electricity standards, low carbon fuel standards and vehicle emission standards — compared with carbon pricing — will hurt the economy. If the economic penalty is small, flexible regulations should be considered where they have a much higher chance of being politically acceptable. Former Liberal leader St├ęphane Dion’s failed electoral bid, which was based on a carbon tax, ensured a decade of climate inaction by former prime minister Stephen Harper. If we agree that a continued failure to act on climate will have a large cost, then not incorporating political acceptability into the policy calculus is penny wise and pound foolish.

Second, they argued that carbon pricing is now politically acceptable. But academic surveys and real-world evidence show the opposite. Carbon prices are everywhere still at such low levels that their effect in places like California, British Columbia, Quebec, and Ontario is negligible relative to regulatory actions that have also been introduced in those jurisdictions. Flexible regulations are projected to account for 90 percent of California’s reductions between 2005 and 2025.

Third, they argued that everyone can see the benefits of using carbon revenues to lower income taxes. Stating unequivocally, and without evidence, that “nobody should believe the claims of political infeasibility,” they explain that whenever the public complains that carbon taxes are too high, an easy solution is to explain that income taxes will go down.

Maybe this works with the students in their economics classes, but it certainly didn’t work for St├ęphane Dion, and nor did it work for former BC premier Gordon Campbell, whose supposedly revenue-neutral carbon tax is the poster child for emissions-pricing. Government, climate activists, business leaders, and academics like Nancy Olewiler and myself made this case for revenue neutrality via income tax cuts repeatedly in the 2008-09 BC climate debate, to no effect. During the opposition’s “axe the tax” campaign, Campbell’s government dropped 20 points in the polls and would have lost the 2009 election, but it was saved by the bell when the global recession and resulting collapse in oil prices shifted voter concerns from gasoline to jobs. In a recent survey on the public’s relative views on climate policies in BC, I and co-researchers Katya Rhodes and Jonn Axsen found that strong opposition to the carbon tax was 7 to 10 times greater than strong opposition to flexible regulations.

We repeat our appeal that economists learn from other social sciences. Effective climate policies are politically difficult. Being unwilling to consider trade-offs that are at the margin between purist economic efficiency and political acceptability is to risk continuing along the path of climate inaction, which itself is economically inefficient.