Equity and Efficiencyin Policies to Reduce Carbon Emissions in The Domestic Sector

It is frequently asserted that the distribution effects of a carbon/energy tax - such as that proposed by the Commission of the European Communities - will be largely regressive: that the burden of the tax will fall disproportionately on lower income households. Such an assertion, although valid within the confines of the respective analyses, is based upon an unduly limited treatment of the fiscal implications of such a tax as well as a simplification of the demand for energy services in the domestic sector. It will be argued that such analyses, by implicitly assuming that efficiency objectives (reducing carbon emissions at lowest cost) and equity objectives (ensuring that lower-income households do not suffer welfare losses) are to be separately achieved, overstate the cost of reducing emissions in terms of both objectives. Stated differently, such studies fail to recognize that the adverse efficiency effects and equity effects are opposite sides of the same problem and that the revenue generated by the tax can be recycled in such a ways as to exploit the complementarity of the objectives. The relative importance of exploiting this complementarity with respect to domestic thermal energy service (space and water heating) is explored.