Note: This transcript is auto generated and lightly edited.
KIM: And that basically tells individuals, it's going to be more expensive if you buy these emissions intensive products, but we're not trying to make you poorer overall. Like we're trying to incentivize the right behavior, but we're also going to dull the pain by giving you some of that money back. And that's a very effective way to kind of bring people along on these policies.
MONICA: Welcome to Policy for the Planet, a new bimonthly podcast exploring the global response to the climate crisis.
I'm Monica de Bolle, a best-selling author and senior fellow at the Peterson Institute for International Economics, based in Washington, D.C. My work bridges the fields of economics, science, public policy, and public health–all under an international lens.
In each episode, I speak in-depth with experts to understand how governments are responding to the monumental challenges of the climate emergency. We'll unravel the complex tradeoffs of different policy choices to steer us toward sustainable practices and public well-being.
Welcome to the conversation!
Carbon pricing has long been rated by economists' as an effective and efficient tool for fighting climate change. Many governments around the world are turning to carbon taxes and market-based approaches like emissions trading to reduce greenhouse gas emissions. And these systems have worked!
Yet, one country remains notably absent from this global trend — the United States.
Why is carbon pricing so effective? How can governments implement these policies while protecting vulnerable populations? These questions are more urgent than ever.
The week following the recent US election, we examined these questions with Kimberly Clausing, a nonresident senior fellow at the Peterson Institute for International Economics.
Kim holds the Eric M. Zolt Chair in Tax Law and Policy at UCLA and served as Deputy Assistant Secretary for Tax Analysis in the U.S. Treasury Department during the Biden Administration.
Her research on taxation and global economic policy has informed policymakers worldwide, and she'll help us understand the challenges and opportunities we face today.
Hi, Kim. Thanks for joining us and welcome to the show. Let's dive in. Talk to us about carbon taxes. Can you define what carbon taxes are and why they're a good policy tool? And what's the United States currently doing in terms of carbon taxes?
KIM: Thanks so much, Monica, for that question and for having me on your podcast. So carbon taxes are a tool that are particularly beloved by economists throughout the political spectrum. It's one of the few areas where I think if you polled 100 economists, you'd get at least 99 of them really in favor of carbon taxes. And the reason economists like carbon taxes is because they respond very directly to the negative externality in question. And so the negative externality is the fact that there's too much greenhouse gas emissions in the world. And effectively by charging a price on carbon, you incentivize every actor in the economy to use less of carbon in what they do. And they may not even know they're being incentivized. So if you buy a plane ticket, it'll be more expensive because it will price the carbon in the aviation fuel. If you're a firm and you make your building more weather-resistant, that will save you on energy costs. And so it really incentivizes every actor in the economy to do what we need to do, which is to cut down on these greenhouse gas emissions.
There are course different ways to implement carbon taxes. One can do a straightforward one that's kind of upstream where you just charge at the coal mine and at the natural gas facility and at the oil well and then you let the prices kind of affect everything in the economy. Or some countries rely on industry-only carbon pricing where they just take certain industries and they apply the carbon tax there. You can also do an emissions trading system which is quite similar to a carbon tax and many people think equivalent, where you basically allow companies and electricity producers to produce a certain amount of greenhouse gas emissions, but you charge them for each unit by setting up a system of tradable permits effectively, or these emissions trading systems.
And that likewise will internalize the incentives of firms and actors to reduce emissions because they know that there's an opportunity cost associated with every permit that they use. They either have to pay for the permit or they aren't able to sell it. Right? So the very effective tool they've been shown in big meta-analyses to reduce emissions, and that's really the North Star here. We want fewer emissions. And you can see in the literature that carbon taxes and ETS systems are quite effective. The United States at present isn't employing this tool at a national level. I have argued that they should strongly consider doing so and we could talk more later about the prospects for that. There are some sub-national jurisdictions, however, that are employing this tool and I think the most aggressive one is California, the state that I'm talking from today, which has an ETS system that's been quite effective. Others on the West Coast are interested in carbon pricing. So you see the state of Washington, for instance, adopting that. And then there is a Northeastern group of states, sometimes referred to as Reggie, which has a more modest regime at a somewhat lower price in a more narrow band of effectiveness, but it is a step in that direction as well.
MONICA: Excellent. But since you started talking about this and you started hinting at where the US is relative to other countries, can we talk about that for a second? I mean, how does the US compare if we were to look globally? How does the US compare to other countries in carbon taxes or carbon markets, ETS systems, you know, in the various forms that this can take?
KIM: Yes. So if you look at the world as a whole, and the World Bank actually tracks this, about 24% of emissions are covered by some sort of carbon pricing regime. The share of rich countries that use some sort of carbon pricing regime is much higher than that of poor or middle-income countries. If you look at the OECD, which is kind of the rich country club, and you take out the United States, you'll see that over half of emissions are covered by some kind of carbon pricing regime.
If you look at the biggest countries of the world, the G20 jurisdictions, there are 17 of them that are either doing some form of carbon pricing or ETS or working toward implementation. Brazil and India are working toward it. The other 15 of the 17 have it. And then there's three exceptions. Those exceptions are the United States, Saudi Arabia and Russia.
So there is a fair amount of consensus among the biggest countries, among the richest countries, and really worldwide that this is an extremely useful tool. And I think there's a good reason for that consensus. If you look at the alternatives, which might be, for instance, subsidizing companies and individuals to use cleaner energy, that's helpful in many instances, but it's also very expensive.
And most countries are fiscally constrained, including the United States, and there are limits to what we can do with a subsidy-based approach. So I think many jurisdictions have decided that pricing is a really helpful tool in the toolbox. And if you're worried about the difficulty of pricing, jurisdictions have also found ways to ease that political problems.
So for instance, you can start with a system of free allowances where you give industry their allowances for free. That still incentivizes them to take the cost of the allowance of the permit into account because if they use a permit, they can't sell it on this secondary market where they can trade, right? But it does make it sort of the income effect as economists would think of it of this transition easier to bear and then slowly you can phase out those free allowances. So you're already sort of incentivizing the right policies and the right adoptions by individuals and companies, but you're not kind of forcing all of the economic burden onto them all at once.
And likewise with the straightforward carbon tax, you can start at a low tax and increase it over time. Canada had that approach, right? Starting very modestly increasing over time. And that gives firms and individuals more time to adjust. It's probably a really sensible way to go forward because you don't want to make things more expensive without there being alternatives for people, right? And the price itself will incentivize the development of alternatives, right? And so as things get more expensive, there will be cheaper alternatives to turn to like wind and solar and nuclear that will dull the impact in people's pocketbooks of the the higher carbon price. And there are other ways, by the way, to dull that impact too. Jurisdictions have been quite successful at refunding some of the carbon tax proceeds back. In California, you get rebates on some of your utility bills. In Canada, they do some refunding there too.
And that basically tells individuals, it's going to be more expensive if you buy these emissions intensive products, but we're not trying to make you poorer overall. Like we're trying to incentivize the right behavior, but we're also going to dull the pain by giving you some of that money back. And that's a very effective way to kind of bring people along on these policies.
MONICA: Yeah, absolutely.
We economists love carbon taxes. What about people? What about the people who are affected by them?
KIM: Yeah, so there can be political backlash. And I think that we've seen some of that in the Canadian case as an example. I think what it's really endemic in policymakers to sorry, what what I think it's really important for policymakers to consider when they're implementing these carbon taxes or pricing regimes are ways to make them more palatable to people by pairing them with other things that people appreciate.
So for example, we're about to have a big tax reform debate here in the United States. You could imagine telling people that at the same time their taxes are gonna be cut in this, that and the other area, their taxes might be increased in this particular area. And so they'll come to pair this idea of tax reduction with a more green pricing system. That might be a little hopeful for the United States, but you can see other places where they've earmarked the use of these funds for popular spending, where they've earmarked the use of these funds for popular tax reductions, and those kinds of pairing, I think, can make this policy tool far more palatable.
Another way that you can make it more palatable is by effectively addressing the fee at the industry or corporate level, you can sort of say, okay, we're going to start with firms, we're going to have the firms pay this. And of course, as we know, as economists, the incidence of a firm based tax can often end up in the hands of consumers, right? But if you're taxing the aluminum sector and the steel sector and the cement and chemicals and fertilizer sector, most of us don't kind of go to the store and buy those products, right? So by the time those products affect the prices of our know, groceries or toasters or the things we're buying that might have a little bit of metal or a little bit of fertilizer in them, right? The price impact will be quite a bit smaller, right? And at the same time, it will incentivize new technological adoption in those industries to make fertilizer and aluminum and steel in a more carbon friendly way, in a greener way, right?
MONICA: Is it fair to say that for governments that are implementing carbon taxes in whatever way they do it, the revenue that comes from these taxes will not necessarily accrue to the government for the government to use in any way it likes. But rather, there's gonna have to be something tied to that revenue that implies a compensation mechanism for the consumers and everyone else who is affected by these taxes.
KIM: Yeah, I think there's a lot of room for in-between approaches. So for instance, I've done some work on the possibility of a carbon fee in the United States. And if you start with a relatively small one like $15 and you accelerated over a decade to 65 and then increase with inflation thereafter, if you take that, which is pretty modest if you compare to prices in Europe and elsewhere.
If you take that very modest carbon fee, that'll generate about $600 billion in revenue. Or if you don't rebate at the export, since we're such a fossil fuel exporter at this moment, it would be more like a trillion. That's a lot of revenue, right? So how do you use that revenue? I don't think you need to use all trillion or all $600 billion and just hand it back to consumers in the form of you know, an even per capita rebate. I mean, that's one possibility, and I would be wildly happy with that, too. But one thing you can do is you can sort of say, OK, well, we're going to take the price impact and we're going to make that go away for consumers. So, for instance, the fee I just described, if you layer it on top of the clean energy investments that have recently occurred through the Inflation Reduction Act and the infrastructure bills.
Because you already see that energy costs are kind of coming down due to some of these subsidies. And that leaves you a lot of revenue to do other things. Maybe you could say, OK, we really want to expand the child tax credit, but we've got a lot of deficits.
And we're not sure we can afford to do that. But if we spend this carbon fee revenue on that, right, we can make child rearing easier in the United States at the same time that we're making sure that households aren't impacted on their utility bills, right? So you can really have it both ways. There's enough revenue here to take away the impact at the household level, but to also buy some other good things that your constituents might want.
MONICA: And one thing that you have noted in your work is that carbon tariff proposals in the federal government have been protectionist. Can you explain more about this and also why would some policies be protectionist measures in disguise?
KIM: Yeah, so my concerns about this are smaller than they were a few days ago. So let me explain why that is. But if you go back and you look at recent legislative approaches that members of Congress have put forward, there's two that are particularly prominent. One is the Foreign Polluter Act, which Senator Cassidy and his collaborators put together. That's the one that I worry is protectionist.
It only charges foreign products for the pollution content in the imports. It doesn't apply a similar fee to US products. So basically you're telling Mozambique that if they want to produce aluminum and send it to the United States, that they have to pay for their carbon emissions, despite being quite a poor country. But US firms don't, right? And that just seems to be both morally problematic and inconsistent with our longstanding US principles of treating our trading partners in a non-discriminatory fashion by world trade organization and GATT rules, right? Which is something we've tried to do more often than not, even in recent years.
The Clean Competition Act, which is offered by Senator Whitehouse and some of his collaborators, that takes a non-discriminatory approach. What that does is it sets a carbon intensity standard for both US production and foreign production. And if you're over that standard, you start paying a fee. So it's similar to a carbon border adjustment coupled with a pricing system like that used in the European Union, it's different because it only applies above the threshold, right?
MONICA: And when you say the European approach, you're talking specifically about the carbon adjustment tax, the CBAM mechanism, so the carbon border adjustment mechanism. Can you just very briefly explain it?
KIM: Yes, yes. So the carbon border adjustment mechanism is the first policy of its type really in the world that Europe has just started implementing. And the fees aren't in effect yet, but Europe is now collecting data from countries that sell certain products into the European market. And it will start levying fees in 2026 and the fees start getting kind of serious in size in about 2030.
So if you're a German producer of steel, you're at a disadvantage relative to trading partners around the world because European Union is imposing these carbon prices and the carbon prices are being imposed gradually by the removal of free allowances, right, that we talked about earlier. So what they're doing is saying, okay, importers, we're going to treat you the same as we treat our domestic European firms. So that when your good comes across the border, right, it too will face a tariff, but the tariff isn't really a tariff in a protectionist sense.
So I've done some analysis with co-authors of the aluminum sector in Mozambique and they're kind of the poster child of someone who could be hurt by this policy. But if you look at it, European aluminum prices will rise relative to the rest of the world because of the removal of these free allowances.
So if you're Mozambique and you're sending aluminum into Europe and you pay that fee at the border, you're also going to get a higher price when you sell into Europe. So there's two effects here. And whether that's bad for Mozambique or not depends on the net effect of whether they're cleaner or dirtier than the average producer sending into Europe. If they're equally dirty as the average producer sending into Europe, that price increase will match their carbon fee.
One thing that Mozambique could do in response is they could levy a aluminum-sector-only carbon fee. And then they would convert that tariff revenue into domestic revenue. And then the country of Mozambique as a whole might even gain from this, right, because they'll have additional tax revenue that's pretty efficient. They won't have to pay the tariff at the border, but they will get this higher price from the Europeans. So I think how countries respond to this is very important.
So I don't think they're going to pursue a carbon tariff like the Cassidy bill, the Foreign Polluter Act, because that would be tying their protectionism to climate change, which isn't something that Republicans are wild about talking about in the first place. I think it's more likely that they'll just do tariffs writ large and they might be higher on some countries than others.
MONICA: Understood. And thank you for bringing up the elephant in the room. Continuing with the elephant in the room, though, I do have to ask you whether you think because of everything you've just said, the United States will likely fall further behind because it already is behind, but will fall further behind the European Union and China in the green transition.
KIM: So one key question is whether the current subsidies that have been put in place by the Inflation Reduction Act continue or not. The Republicans in the House have already made one attempt to repeal those subsidies that, of course, died in the Senate, which was controlled by Democrats in the past and is right now until January.
But you might imagine that they'll be less constrained when they have a Republican Senate and a Republican president, right? So if they wanted to, they could repeal the Inflation Reduction Act tax subsidies. Whether they will do so or not is an interesting question because there's political costs to doing so as well. There's been a lot of new investments and new job creation undertaken in these sectors. There are a lot of powerful business interests that have benefited from these tax credits already and that have a strong stake in their continuation.
But I think that the good news there is the energy credits and solar and wind space are quite effective as well as the nuclear credits. And I think there will be strong pressure to keep those in particular. I think the EV credits are less effective. And so one might speculate that while they'll get rid of those, especially because Republicans have been quite vocal in their disdain for those.
Will there be new environmental initiatives under this administration? No, I don't think there will be anything new that would help the transition. I think the best we can hope for is that they aren't able to repeal what's been done in the past. I would expect some regulatory rollbacks, and I think those will harm the transition in the United States, thus putting us further behind. And, you know, it's possible that more draconian things would happen as well to set us further back.
I would also point out that we're not exactly on the frontier at present, that in some sectors like solar and EVs, China has a huge advantage relative to the United States. So this is not about keeping us at the frontier. It's about preventing us from falling further behind. And I have some grave concerns in that area. I don't really have certainty yet about what
MONICA: Yeah, uncertainty is the name of the game at the moment. You've written about this in the past, but do you think there's any feasibility for the US, EU and China to come together to tackle the green transition through similar policies or tax measures? I know it's pie in the sky.
KIM: Yeah. So I don't have a lot of optimism regarding the United States as a reliable participant in global cooperative efforts over the next four years. I just don't. think that doesn't mean that we won't come back. But you might also wonder, you know, if you're Europe, like how reliable as a partner is the United States? Can we count on them if every four years they reverse what they're doing.
So I think that given the policy platforms of Trump and the fact that they've now been approved by the voters twice, I think I would be quite cautious about the US as a partner in the time ahead. This doesn't mean that the Europeans and others can't pursue really important global collective action in the time ahead. I would point out that the United States is less than one eighth of global emissions, right? That means seven eighths of it are other countries, right? And so there's a lot of room for collaboration in a plurilateral basis that excludes the United States, including on things like carbon border adjustments.
You could imagine a situation where Europe and Canada and the UK and Australia and Japan try to do a unified version of that, right? And try to help bring along lower and middle income countries into some sort of minimum carbon pricing agreements. And I think that there's a group of IMF researchers that have said that that could be quite effective and that one could imagine of pricing commitments where lower income countries had lower pricing commitments than middle income, than higher income.
And I think that that approach could be extremely effective in sort of overcoming this global collective action problem by bringing more countries into the fold and by sort of making a unified set of rules about how we carbon price and how we treat the border. And I think those that don't like the European carbon border adjustment approach are often complaining in part about the lack of multilateralism there, about the fact that Europe just decided to do this thing. And now there's all this confusion about what are the consequences of that.
But if you imagine kind of moving that starting point into a more multilateral sphere, kind of like recently occurred with the international tax agreement where there were...You know, there was a broad consensus that we needed to do better at taxing mobile multinational company income. And eventually, like most of the countries in the world, got on that bandwagon. I can imagine something similar happening in this space. I can't imagine the United States taking a leadership role. And I don't think, frankly, that China is well positioned to take the leadership role in this area either. But I do think the European Union and its partner countries, including the UK, Canada, Japan, Australia, and the broader coalition around the world. Brazil has been quite interested in this area as well. I think that that group could make substantial progress at the Brazil COP, for instance, and sort of suggesting a way forward that doesn't rely on US leadership, but that kind of relies on the rest of the world to realize, hey, this is a big global collective action problem. We can work together without the United States and we can put
pressure on the United States to either follow our joint set of leadership here or to face the consequences. And then if we get a friendlier US government down the road, which one hopes for, then they can join an existing effort. They won't get to shape it. They might have lost that opportunity but they'll get to join it and influence it from that path forward.
So I think that's what I'm hopeful about is that there are a lot of other countries that are moving in this direction successfully.
And if we're lucky, the United States joins again down the road.
MONICA: Well, Kim, thank you very much. This was a fascinating conversation. I learned a lot. Thank you for giving us your time. I really enjoyed talking with you. I hope you liked it.
KIM: I had a great time. Thank you so much for having me on your podcast.
MONICA: Thank you for joining me on Policy for the Planet. Have a question or a topic to suggest? Email me at [email protected]. I'd love to hear from you.
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