Frequently asked questions

Green Tax Shift Q1: How do you know that a green tax shift will work better than say, wind power, at reducing carbon emissions?

A: The two solutions are not mutually exclusive. A green tax shift will give you wind power as soon as the price of electricity goes up enough to make wind power competitive. Until then, you can guarantee that there will be cheaper ways to reduce emissions, as the following example demonstrates:

Suppose, for example, that $5 will buy you X units of electricity from a coal fired power station, and that this will result in Y tons of CO2 emissions, and that the same amount of electricity from a wind turbine costs $10. If you go with the wind turbine option, then out of each $10 you will be getting $5 worth of electricity and you will be saving Y tons of CO2 emissions at an extra cost of $5. However, you could save the same amount of CO2 emissions for only $1, by offering to pay a company $1 for every X units of electricity it saves. By reducing electricity consumption, the business will save $5 on the cost of electricity and get an extra $1 from you. Currently, that business will only reduce electricity consumption if the added costs of doing so (say, the cost of more efficient lighting) comes to less than $5 per X units of electricity saved. There will be plenty of options that cost between $5 and $6 that the company will take advantage of if they are able to. By choosing wind power, the government is forcing you to fund (through taxes or higher electricity costs) the $5 option, while ignoring the $1 option. The only effective way to take advantage of that $1 option is to make people pay for carbon emissions.

A green tax shift will give you all the options that cost less than $5 before you get a switch to wind power. If the price of carbon emissions exceeds $5, then you will also get a switch to wind power, in addition to the other energy saving options.

Obviously, this is a contrived example and the real situation is a lot more complicated. However the principle behind it still applies in all circumstances. For example, some wind turbine locations may be more cost effective than others, and they will be taken advantage of when the price is right. The only thing you can be certain of is that a green tax shift will give you the cheapest options for reducing emissions, whereas direct government intervention will give you are far more limited set of options.

Q2: What will be the real impact on the market place? Will costs go up, and will we loose business to overseas competitors?

A: Consider the following two scenarios:

1) Wages stay the same, income tax drops, so people’s after-tax income goes up. Some products will go up in price a lot, others only marginally. When you take people’s extra income into account, the affordability of some products increases, and that of others decreases.

2) Wages drop, cancelling out the income tax drops, so people’s after-tax income stays the same. Products that involve a lot of carbon emissions go up in price. Products that involve more labour go down in price.

In both cases, the market for products that involve more labour increases, while the market for products that require a lot of carbon emissions shrinks. This will improve the employment rate and reduce our dependence on fossil fuels, while keeping people’s overall standard of living roughly the same.

The real situation will be some combination of option 1 and 2. This is where foreign competition comes in. If a business becomes uncompetitive, it will be forced to lower salaries. It will shrink as people move to the more profitable businesses offering better salaries. This may take some time, so the initial response may look more like option 1, and shift towards option 2 over time. However, remember that overall, people’s standard of living will be roughly the same.

Over the long term society will be better off. The scenarios described above indicate some change, but that on the whole people will still be just as well off. However, in the long run we will have the added benefit of less global warming (or whatever else you apply the green tax shift idea too). This is how the benefit to society arises.

Finally, consider the situation where, rather than improving efficiency and switching to labour intensive rather than energy intensive activity, we switch to renewable energy sources. The cost of electricity will go up, but the government will not get any extra revenue from that increase in price and so will not be able to lower income taxes. In this case, there will be a real cost to the economy and ‘all’ we get in exchange is a reduction in greenhouse emissions. Provided the green tax is set at a reasonable level, where the cost of emissions matches the negative value society places on climate change, we will still be getting a good deal.

The ‘real’ response of the economy will be a mixture of these three scenarios, and it is impossible to predict exactly what will happen. However, all we need to know is that we do want to reduce emissions and a green tax shift is the best way to do it.

Q3: Won’t some people be worse off, especially the poor?

A: Yes and no. In any change, some people will be better off, and others will be worse off. Those who will benefit most are those who can adapt quickly. The people who reduce their emissions will be rewarded. It is important not to focus on the potential downside while ignoring the benefits. Unfortunately this is how politics usually works (scaremongering), which is why we need to get the message out about the huge benefits of a green tax shift. Governments tend to go with grand schemes like wind farms because people see the benefits but not the costs. The costs are spread out over society through higher taxes and electricity prices, which causes more problems for a given reduction in emissions - it's just that the connection isn't as obvious and people don't get as scared.

The poor will not be especially worse off. You can target the income tax reduction at the lower tax brackets. In addition, our society is not one that leaves the poor to fend for themselves, even if they do not adapt quickly. We have a generous welfare system. Finally, it is the wealthy who create most of the carbon emissions, with international flights, large cars and large houses that require lots of heating, cooling and light, heated pools etc.

Q4: Wouldn't carbon trading give you more certainty in the outcome?

A: A green tax shift has several key advantages over trading schemes:

1) It allows a reduction in other taxes, thereby eliminating most or all of the cost to the economy.

2) It produces steady and ongoing reductions, whereas trading schemes require step reductions and a new political process for every reduction.

3) The legislation is far more flexible in political terms, partly because of the reduction in other taxes, which removes most of the competitive disadvantage on international markets.

With sufficient planning, you can achieve some certainty in the outcome of a green tax shift, while any uncertainty can be taken care of through the increased flexibility (ie, increasing the taxes at a later date). Given the uncertainty that still remains regarding the extent of global warming and other scientific issues, this would be the most prudent option. Any uncertainty is more likely to favour greater than expected reductions, rather than lower reductions. This is because you can plan based on known sensitivities of consumption to price. Uncertainties will arise through unknown mechanisms for reducing consumption, such as new technologies and improvements to business structure (eg the extent of centralisation).

Carbon trading will give you more certainty about the amount of carbon emissions, whereas a green tax shift will give you more certainty about the price of carbon emissions. However in the long run they will tend to be equivalent, as the political process will adjust each until society is happy with the outcome. The main differences are that a green tax shift is much more flexible and can be changed faster, and that it results in a much smoother reduction in carbon emissions. It would most likely result in a faster reduction in emissions because industry will continue finding ways to reduce emissions, even after emissions reduction targets have been met. People tend to get hung up on how much emissions are acceptable and then demand that we reach that target. However it is likely that we will be able to go beyond those targets and if it is possible we should do it. Finally, industry is more concerned with the price of carbon emissions than the total emissions, so a green tax shift scheme will provide greater certainty to industry, which should encourage investment. Under a carbon trading scheme, a company that invests in an emissions reduction technology is taking a far greater risk, because the price of emissions could plummet if targets are met easily. This has tended to be the case in Europe, where trading schemes barely got off the ground because there was no shortage of emissions rights. The efforts of governments alone was enough to meet the generous targets, and further investment in emissions reduction has largely stalled.

In other words, carbon trading does give you more certainty as you can be sure that emissions will end up being higher than if you had chosen a green tax shift.

Q5: Aren't subsidies better than taxes?

A: No. They can achieve a similar balance between subsidised and non-subsidised options (for example, between renewable energy and coal fired power plants). However, this leaves a lot of the options out. For example, no subsidy scheme can reward reductions in consumption, which is where the easiest options for reducing emissions tend to lie. Furthermore, the end result is an imbalance in our economy. For the electricity example, you could get a reasonable balance between coal fired plants and wind farms, but the total amount of electricity supplied and used would greatly exceed what is actually needed by society. This is because renewables would by directly subsidised, whereas fossil fuel sources would be indirectly subsidised by society footing the bill for the emissions. Our society would put in a lot of effort to raise government revenue (taxes) to supply more electricity than is actually needed. You would end up with the absurd situation of charging less for products than it costs to make them, with taxpayers forking out for the difference.

Depending on the extent to which they are applied, a green tax shift will achieve the same price signal and the same 'immediate' outcome as a subsidy. The difference is that a subsidy requires an increase in the total tax burden on society (or a lost opportunity to reduce taxes or spend the money wisely elsewhere). Thus a green tax shift relies more heavily on free market mechanisms, whereas a subsidy relies more heavily on direct government control of the economy. This direct control is rarely necessary and should always be considered a second choice to a green tax shift because it damages the economy through its reliance on taxation and bureaucracy. Subsidies are always applied too narrowly. The government can never effectively subsidise all the options available to reduce a negative externality. Thus the subsidised options are overused, well beyond the point where they cease to be an economical option. Other cheaper options are underexploited. This is especially true for improvements in efficiency and changes to patterns of consumption. The significant deviation of the economy from the ideal (ie cheapest) combination of tools to reduce a negative externality results in lost productivity and an extra cost to society above that caused by the higher tax burden. Finally, a subsidy does not actually internalise a negative externality. It encourages a trade in products that facilitate the reduction, but the economic incentive to pollute or overconsume is still there.

Q6: What about government imposed limits?

A: Government imposed limits or quotas are a very rough tool. They will only encourage some users to reduce consumption. Once people have reduced their consumption to within the imposed limits, there is no longer any incentive for further reductions. Quotas can only be applied in a limited set of circumstances, and the reductions that it achieves are unlikely to be the 'low hanging fruit.' A trading scheme would achieve the same outcome with less impact on the economy, though it also falls short of a green tax shift (see Q4).

Q7: Isn't petrol already taxed?

A: Yes, petrol is already taxed. However, most other sources of emissions are not directly taxed, and petrol only makes up a small fraction of our emissions (and would therefore not bear the brunt of price increases). Furthermore, fuel excises in Australia barely cover the cost of road maintenance and construction. The tax on petrol should cover both of these 'negative externalities'. Fuel consumption is the best proxy measure of wear and tear caused to the roads, and how much of the roads a person 'takes up,' thus increasing the need for more lanes etc. It is a far more suitable approach than tolls or registration fees. Registration fees are barely related to road wear or emissions, as they do not increase with vehicle use. Tolls cost a lot more to enforce, slow the traffic down and are a less direct measure of road use, as anyone unfortunate enough to pass through several on their way to and from work can attest. Also, they tend to penalise city users more, who have far less spent on them for roads on a per capita basis than rural dwellers. The pre-existing tax on petrol does give one benefit - the infrastructure for the tax is already in place.