Friday, February 21, 2014

California Gets Carbon Tax Horribly Wrong

Unfortunately, I need to explain some economics before understanding why this California politician is clueless.

A market externality is a cost of a good or service that is not included in the price. For instance, I am a power plant and do not figure in the cost of acid rain when I burn coal to generate electricity (luckily we have ways to remove the sulfur from the emissions now, but think back to the 80s). The cost of the acid rain is the market externality.

A social cost or a social good is part of the market externality. In the example above, acid rain is a social cost. Since the cost of the acid rain isn't figured into the price, the difference is borne by everyone affected -- hence the social cost. A social good is similar, but a desired result. For instance, a well-educated population is a social good even for those who did not pay tuition.

A pigovian tax is a "tax" added to the price of a good or service which has an external component. Or think of it as having a social cost. The pigovian tax is meant to bring the price in line with the true price -- it attempts to internalize the externality. The result is two-fold: (1) the behavior causing a social cost is disincentivized, so less social cost and (2) the price now reflects the true price which increases market efficiency.

When it comes to carbon emissions, market externalities are the true problem. The actual cost of emitting carbon (via climate change mainly) is ignored. Gas is cheaper than its true price would be. It's impossible to know exactly what the true price would be, but that doesn't mean it doesn't exist. So the best way to solve carbon emissions that contribute to climate change is through a pigovian tax. More on this in the forthcoming issue of the Journal of Lutheran Ethics.

So when I saw an article about carbon tax in California I thought they were on the right track. But then I read the full headline: "California senate leader: Carbon tax would return revenue to poor, transit." A pigovian tax can't be treated like a sales tax or income tax. It can't simply be thrown into the revenue barrel and allowed to be porked out like the rest. The whole point of a pigovian tax is to bring the externality into the market and reduce social costs to equal or less than zero. Simply doling out this revenue to the poorest Californians does nothing to mitigate climate change. The proceeds should be used for the social goods that help neutralize carbon emissions. While I doubt California is interested in paying Brazil not to cut down the rainforest (a truly important measure to take), I think they would be interested in a research grant for tech companies to look into artificial carbon sinks. The revenue from this tax could help fund such a grant. While they also mention public transit, I just hope they do it the right way in order to reduce traffic instead of increase it. See David Owen's great books which cover, among other topics, induced traffic.

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