What is the right carbon tax?
I considered a number of pessimistic topics for my article this week. Under study were the Proposed rebate of $400 for each car owner (bad idea!), Germany refusal to stop importing Russian fossil fuels (was it denn bitte los?) or the finalizing the latest fuel economy rules (yay-ish!). But since we don’t talk about or recommend carbon taxes enough on this blog, I’m going to talk about an article that made me think more about what the level of an optimal carbon tax is.
Quick refresh. Most of our activities emit greenhouse gases and most of us use the atmosphere as a free dumping ground. Basic economics suggests that you should pay the full cost of your unnecessary activities. The optimal carbon tax is supposed to be set at an amount in dollars/yuan/euro/rupee/peso equivalent to the damage caused by each ton of carbon at the optimal level of emissions. Or in simpler terms, if your plant dumps gunk into a lake that causes $100 in damage to everything and everyone around the lake, the tax should be set at $100. Yes, the dynamics, the uncertainty blah blah blah, we can complicate it any way we want, but the question is what real amount should we set the carbon tax at?
A candidate is from the so-called Literature on the social cost of carbon (SCC), where we run abstract integrated assessment models and try to calculate the damage caused by one tonne emitted over its lifetime to as many sectors as we can model. Long story short, the SCC for a ton of CO2 emitted in 2020 is $52 according to the latest estimates from the Biden administration. But it is a number that is calculated based on a long list of strong assumptions. .
Another way to get a number is to ask the experts. There is a formal scientific technique, which is called expert elicitation. You basically figure out who knows a lot about a topic and ask them well-formulated questions. Drupp, Nesje and Schmidt did just that moments before the pandemic ended normalcy. What are they doing?
They used algorithms to build a list of authors with at least two relevant and cited publications during this millennium. So, nerds like me were interviewed, but it should be noted that only about half of those interviewed were people who publish in economics (which is neither flattery nor criticism). They pestered and pestered and pestered until they got a pretty impressive response rate. Their sample contains responses from all major continents, and the countries represented cover more than 80% of global CO2 emissions. Really cool. They then proceeded to compile their results.
The first exact question asked was:
“Suppose a ‘world government’ exists which seeks to maximize the welfare of all present and future people and plans to implement a uniform global carbon price (measured in real US dollars per ton of CO2). What price of carbon would you recommend to the “world government” for the 2020s [X]2030 [X]and 2050 [X]? What carbon price range would you still be comfortable recommending for the 2020s [X] – [X]2030 [X] – [X]and 2050 [X] – [X]?”
The first three panels in the figure below show the distribution of the optimal carbon tax declared by the experts consulted for the years 2020, 2030 and 2050. The fourth panel zooms out (like on your iphone when you try to enter the whole family in your holiday picture) on the results for 2050 (look at the much larger scale on the vertical axis).
There are a lot of things here. Dots indicate individual survey responses. The “X” indicates the mean value, the horizontal black line the median, the vertical box the interquartile range, and the blob is a kernel density of the survey responses to better visualize the distribution. If you read the article carefully, the authors dropped some implausibly high numbers from this figure, but report the full results in the appendix.
The first thing to note is that the recommended average carbon tax in 2020 is $50, $92 in 2030, and $224 in 2050. The 2020 estimate is nearly identical to the SCC used by all federal benefit cost analyses. More on that later. The average tax advised here, however, increases much faster than the CSC does for the federal rules (eg, the CSC for 2050 in the federal rules is $85). When we look at the median numbers, which are more “robust” to extreme expert answers, the numbers for 2020, 2030, and 2050 are $40, $70, and $100, respectively, which is much closer to the CSC numbers. currently used.
The authors then slice the summarized data into the following four results (there are a few more in the article), which I’m just throwing over there.
- There is a strong consensus among experts that a uniform global carbon price should be higher than the current global average carbon price (today it is higher in some places, but practically nil in most).
- Although there is a large scatter in the distributions of the prices shown, most experts generally agree on global carbon prices in the short to medium term. What this suggests is that the experts aren’t “all over the place”, but that the suggested overall ranges line up reasonably well.
- This one is hard to condense, but when asked to advise their national governments on what carbon price they should impose unilaterally (assuming not everyone does too) they find these tax recommendations to be upper compared to the global carbon tax recommended by the same expert. This is not compatible with the notion of “free-riding” by one’s own government, where one would expect a lower price.
- When the experts were asked to consider a scenario where carbon border adjustments were introduced (meaning if you impose a carbon tax domestically and other countries want to sell in your market, they have to pay your carbon tax you collect), this has led to higher unilateral carbon pricing recommendations. This is in line with the expectation that other governments will do free riding.
The document goes on to unpack the survey responses in an impressive number of ways, but the one thing most decision makers will focus on is the $50 figure – no doubt. Some will find it far too low (hej Sverige!) and others will find it unacceptable because it is not bad (howdy Texas!). It doesn’t worry me at all. It’s very nice to see what the consensus is among the experts who responded across the world. But assuming for a moment that I am such an expert and being asked this question, I would provide a figure fairly close to the official CSC estimate provided by the federal government ($52). I wouldn’t be surprised if many of my peers would do something similar. We eagerly await a new estimate from CSC, on which I’m willing to bet my spouse’s EV is going to be higher. I would like the authors to conduct a follow-up study soon after publication to see if experts anchor their beliefs around these important official figures.
This is a very good article, but any expert elicitation is conditional on the current state of knowledge. If that knowledge changes, it would be cool to see if this optimal carbon tax does too. And yes, we should tax carbon everywhere.