http://mit.edu/ceepr

International Experience with

Carbon PricingOpportunities, Challenges and

Lessons Learned

Michael MehlingChile | May 2017

http://mit.edu/ceepr

Overview

• Background and Rationale

• Carbon Pricing: State and Trends

• Political Economy of Carbon Pricing

• Carbon Pricing Mix

• Climate Policy Mix

• Case Studies:

⎯ British Columbia Carbon Tax

⎯ German “Ökosteuer”

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Background and Rationale (1)

• Climate change belongs to a new generation of

environmental challenges that require scalable,

flexible and economically efficient policy solutions

• Climate Change is the “greatest market failure ever

seen” (Stern, 2006), and carbon pricing can help

correct it by making polluters pay for the cost

• Carbon pricing offers flexibility for abatement to occur

where it is cheapest, and it can generate revenue

• Overall, therefore, carbon pricing is considered a

“logical foundation of any policy regime for clean

energy” (World Economic Forum, 2009)

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Background and Rationale (2)

• Climate change belongs to a new generation of

environmental challenges that require scalable,

flexible and economically efficient policy solutions

• Climate Change is the “greatest market failure ever

seen” (Stern, 2006), and carbon pricing can help

correct it by making polluters pay for the cost

• Carbon pricing offers flexibility for abatement to occur

where it is cheapest, and it can generate revenue

• Overall, therefore, carbon pricing is considered a

“logical foundation of any policy regime for clean

energy” (World Economic Forum, 2009)

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Carbon Pricing: Policy Options

• Generally two approaches to create an explicit carbon

price:

• Taxes, fees and charges: payment obligations based on

carbon emissions or a proxy, such as energy content

Price signal is determined by government

• Emissions trading: a system of emission allowances

distributed to emitters and tradable in a market

Price signal is discovered by the market

• Traditional regulation creates an implicit carbon price,

but does not offer the same efficiency gains or potential

revenue

Carbon Pricing: State and Trends

6/5/2017Source: World Bank, 2016

Source: World Bank, 2016

Carbon Pricing: State and Trends

Carbon Markets: Mention in INDCs

6/5/2017Source: IETA, 2016

Political Economy: Carbon Taxes

• Compelling premise: “Tax Bads, not Goods”, i.e. shift fiscal

burdens from production factors to negative externalities

• “Double Dividend”: correct a market failure and generate

revenue for public expenditure or to lower fiscal burdens

• Implementation can build on existing taxes, such as energy

taxes, and existing administrative capacities for collection

• While emissions outcomes are uncertain, they can be pre-

dicted with some accuracy and tax levels adjusted over time

• A central challenge faced by any meaningful carbon or energy

tax initiative are the unfavorable politics

Political Economy: Emissions Trading

• Certainty of outcome with consistently lower prices than

forecast during the political process

• Emissions trading has proven politically resilient:

• New supportive stakeholders (market facilitators, net “winners”)

• Harnesses creative, proactive engagement by compliance entities

• Discussion of cap less controversial than price: justified by science

• Opposition can be softened by allowance distribution decisions

• Emissions trading offers the opportunity to link to other trading

systems, with multiple benefits such as increased liquidity and

flexibility, foreign revenue, and cooperation

• But like other markets, emissions trading is subject to its own

dynamics and governance challenges, such as volatility

Prices and Binding Political Constraints

6/5/2017Source: World Bank, 2015

US$ 36/tCO2

Social Cost of

CO2 in 2015, at

3% discount rate

Source: U.S. EPA

Factsheet,

Update Dec.

12/2015

6/5/2017

Current Spectrum of Carbon Pricing Instruments

Source: adapted from Munnings, 2016

“Pure” Quantity Rationing “Pure” Pricing

No Trading

Full Trading

Floating Price

Fixed Price

EU ETS

(-2017)British

ColumbiaSouth Africa Mexico

California, Quebec, RGGI

EU ETS (2018-)

“Prices v. Quantities”: A Moot Question?

UK, France (within

EU ETS)

Carbon Pricing Mix

• Climate policy is caused by a bundle of different

market failures, justifying an instrument mix

• Carbon pricing offers unrivaled static efficiency, but

does not address all underlying market failures

• No conclusive theoretical guidance on instrument

choice between price controls and quantity controls

• A coordinated carbon pricing mix can leverage

synergies and harness strengths of both approaches

• Absent coordination, a carbon pricing mix can result

in adverse interactions and distributional effects

Carbon Pricing Mix: Alternative Options

6/5/2017

TimingCoverage

Synchronous Asynchronous

Symmetrical

Price Floor/CeilingUncoordinated

OverlapPhase-In

Transition

ComplianceAlternative

AsymmetricalNo Coordination

NeededOpt-In

Uncoordinated Overlap

Flexibility

Option

Price

Management

OptionTransition

Option

Sou

rce:

McK

inse

y, 2

01

0;

Gö

rla

chet

al.,

20

12

Is Carbon Pricing Enough?

Negative abatement costs: apparently, cost is not the main issue

here – other barriers are at work. Carbon pricing can help, but will not

remove the primary obstacles

Slightly negative to positive abatement costs: carbon pricing can correct market failure and encourage

deployment at scale

High abatement costs: even with carbon pricing, technologies will not

become competitive. R&D investment can bring down costs and

encourage deployment at scale

Instrument Mix: Another Perspective

(Source: Grubb et al., 2014)

Blunt, unfit to scale or risk of

rebound effects

Politically difficult,

competitiveness issues, results

temporary

Risk of failure or lackluster

returns

British Columbia’s Carbon Tax

6/5/2017

• Started on 1 July 2008: $10/t CO2

• Rising $5/t each year to 2012 (now $30/t)

• Covers all domestic fuel use and most

greenhouse gas emissions

• Revenue-neutral: 100% of revenue goes

towards reducing income tax

• Additional reductions for vulnerable (low income,

rural) communities

• Pioneer in carbon pricing in North America

BC: Political Economy

6/5/2017Source: Elgie et al., 2013

• Political leadership: Premier Gordon Campbell

• Good timing harnesses window of opportunity:

– High concern for global warming

– Healthy economy, steady gas prices

• Carbon tax becomes a central issue in 2009

provincial elections

– Recession dominates political debate

– Opposition party campaigns on “Axe the Tax”

– ENGOs

BC: Political Economy

6/5/2017Source: Elgie et al., 2013 17

Window)of)Opportunity:)2006-2008)

''Global'Warming'''''''''' ''Carbon'Tax '''' ''Recession'

BC&C&Tax&

29'

2004' 2005' 2006' 2007' 2008'

News'reference'volume'

Search'term'volume'

Google'Trends:'“Search'Terms”'versus'“News'Reference”'

Federal&elecPon&

BC: Effect on Fuel Consumption

6/5/2017Source: Elgie et al., 2013

BC: Effect on Fuel Sales

6/5/2017Source: Elgie et al., 2013

BC: Effect on GHG Emissions

6/5/2017Source: Elgie et al., 2013

BC: Effect on the Economy

6/5/2017Source: Elgie et al., 2013

Change in GDP (in %) 2008-2011

BC: Fiscal Impacts (1)

6/5/2017Source: Elgie et al., 2013

Net Income Tax Rebates (in $ million)

BC: Fiscal Impacts (2)

6/5/2017

Distribution of Revenue Uses, 2008–2018

Source: Murray et al., 2015

BC: Public Opinion

6/5/2017Source: Murray et al., 2015

Polling Results on the BC Carbon Tax, 2008-2014

Germany’s “Ecological Tax Reform”

27

• Increased tax rates on mineral oil and gas

(“Mineralölsteuer”):

– 3.07 cents per liter and year for gasoline and diesel from 1999

to 2003

– 2.05 cents per liter and year for heating oil from 1999 to 2003

– 36 cents per kWh of natural gas by 2003

• Introduced new levy on electricity (“Stromsteuer”):

1.02 cents per kWh, increased by 0.26 cents per kWh

from 2000 to 2003

• Tax of 33 cents per Gigajoule introduced in 2006 for coal

used for heating purposes, but further increases of tax

rates deferred until further notice

6/5/2017

Reactions to the “Ökosteuer”

28

• Perception of undue

burden on industries and

competitiveness

• Consequence: Politically

negotiated tax exemptions

(60%) and rebates for

manufacturing industries

and agriculture

• Increased social

transfers to the public

instead of exemptions

6/5/2017

Ecological Tax in 1l of Transport Fuel (ct/l)

29

6/5/2017

Source: UPI

Ecological Tax in 1l of Heating Fuel (ct/l)

30

6/5/2017

Source: UPI

Changes in the Consumption of Gasoline and Diesel

31

6/5/2017

Source: UPI

Changes in Transport Fuel Consumption (kt/year)

32

6/5/2017

“Double Dividend” of the Ecological Tax Reform

33

• Revenue largely earmarked to reduce non-wage

labor cost: In 2003, roughly 16.1 billion EUR in

revenue allowed a reduction of pension contributions

by 1.7 % of wage costs

• Empirical studies suggest a positive macroeconomic

balance: Tax reform is officially estimated to have

created 250.000 new jobs by 2005, and yielded 100

mio. annually invested in subsidies and tax credits for

renewable energy and energy efficiency

• Behavioural change: By 2010, the reductions of CO2

emissions were estimated at 3 percent, or roughly 24

million tons of CO2eq per year

6/5/2017Sources cited in Bühler et al., 2011

Thank you for your attention!

6/5/2017

Questions?

@ mmehling@mit.edu

617-324-7829

http://mit.edu/ceepr

Center for Energy and

Environmental Policy ResearchMassachusetts Institute of Technology (MIT)

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