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What is a carbon tax & how would it work? We explore countries where they've implemented it already and take a look at its positive impact (together with some potential hurdles along the way). 

Talking about tax typically makes people feel either slightly apprehensive or quickly brings on a fit of yawns. But this one could be a game-changer. While we puzzle how we’re going to reach global carbon neutrality, could a carbon tax be the answer? 

What is a carbon tax?

Simply, a carbon tax is a tax levied on the carbon content of fuels, typically in the transport or energy sectors, to increase their price proportionately with carbon emissions. The more carbon emitted by a fuel source, the higher the tax added to it.

For example, because coal emits more carbon per unit of energy than natural gas, coal will have a higher tax rate added to it. 

Why add a carbon tax?

A carbon tax is really a form of pollution tax. In economics, pollution is considered a negative externality. This means that it has a negative effect on someone else not directly involved in a transaction.

Think of it as a social cost. Climate change is a serious issue that will impact all life on Earth, so the social cost of releasing greenhouse gases into the atmosphere is enormous. 

The UK’s tax on coal, for example, was found to lead to a significant 93% decrease in coal power generation. As a result, UK emissions are at their lowest since 1890.

By increasing the price of fossil fuels it encourages people to use less and diversify to other sources of energy, the cheapest being renewables. We would wave goodbye to cheap flights and it would cost more to heat your house and fill up your car, for example.

In the US, it’s thought that a carbon tax of $50 a tonne would cost the average American $720 a year extra.

However, the more carbon someone produces, through activities such as driving or flying, the more they end up paying in carbon emissions taxes, so there’s an easy solution there.

cyclist in Japan

 

It’s been found that countries that have introduced carbon taxes have seen a drop in greenhouse gas emissions and a quicker the transition to cleaner fuels.

The UK’s tax on coal, for example, was found to lead to a significant 93% decrease in coal power generation. As a result, UK emissions are at their lowest since 1890.

A tax where you make money?

The money raised from a carbon taxes can be put to good use funding renewable energy projects. It can also be given back to citizens as a tax rebate or dividend that is handed out equally to everyone (say $720 in the US).

People would be rewarded for consuming sustainably, because if they do then they’ll receive more money than they paid because of the tax. The cost will be burdened by high consumers/emitters. Pretty neat!

Carbon taxes in practice

Around 40 governments globally have been experimenting with carbon taxes and, in general, the results have been positive. A 'textbook' example is British Columbia.

In 2008 the Canadian province introduced a carbon tax because warmer winters were killing their ecosystems. Initially set at $10 a ton, it’s steadily increased to almost $50. All the money from the tax is returned to British Columbians in the form of tax cuts, making it a ‘revenue-neutral’ carbon tax model. 

The results have been great. In the first four years, fossil fuel consumption dropped 17% when the rest of the country saw an increase. Also, the region’s economy grew 16%, proving that a carbon tax won’t hinder economic growth. 

 

British Colombia's economy grew 16%, proving that a carbon tax won’t hinder economic growth. 

The British Columbian model has been so successful that in 2019 the government of Canada introduced a national carbon pricing tax. This currently stands at $30 a ton and is set to increase to $170 by 2030. The majority of the money raised, around 90%, is returned to citizens to cover the increased cost of energy. The rest goes to hospitals, schools and remote and indigenous communities. For most Canadians, the money they receive will be more than the increased costs.

Climate tax concern: carbon leakage

Tax is always a divisive issue and, naturally, there are a few arguments against introducing a carbon tax.Carbon leakage is one. Essentially this means that, because of carbon taxes put in place by some countries, heavy-emitters will move their operations elsewhere to avoid paying them. 

A sure-fire way of stopping carbon leakage is a global carbon tax agreed upon by all countries. That would take a lot of negotiation, but there’s no reason why it couldn’t be agreed upon in the future.

Countries or trading blocks can also tax imported goods based on their carbon footprint, thus cancelling out any advantage gained by producing abroad. This is something the EU is looking at introducing in 2022.

How much should carbon cost?

Currently, the average carbon tax is $2 a tonne. This is low. To meet the 2C warming target set out by the Paris Agreement, it’s estimated that it needs to be $75 a tonne. Currently the highest in the world is Sweden’s at $126. Go Sweden!

Did that just blow your mind?

If you’ve made it this far then congratulations. We hope we provided some low-carbon fuel for thought. Maybe you’re even excited about the prospect of another tax! As individuals we can push for a carbon tax by supporting politicians who are in favour of it. 

Carbon taxes, if implemented properly, have the potential to reduce greenhouse emissions by making the highest emitters pay. Would you still take the flight if it were €300, rather than €80, to reflect the true social cost? If the answer is "yes", then that’s okay!

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We hope you found this fun and informative. Do you have an opinion on this, perhaps you're a clever economist who can explain it better than us? Reach out to us at ec@agood.com or hit us up on our Insta.