Environmental implications of Brazil’s tax reform on household consumption

Brazil’s recent tax reform replaces several indirect taxes with a unified Value-Added Tax (VAT), introduces additional rates on goods harmful to health or the environment, exempts several food products, and provides cashback transfers to low-income households. We evaluate the environmental and distributional effects of this reform by combining detailed household expenditure data with product- and state-level carbon footprint estimates that incorporate all emissions sources, including land-use change. The reform, as designed, is projected to increase consumption-based greenhouse gas (GHG) emissions by 1.7% (or 49 kilograms per capita), primarily because high-emission food products become tax-exempt. At the same time, lower-income households experience welfare gains through lower food prices and cashback transfers, revealing a trade-off between distributional and environmental objectives. We then evaluate counterfactual scenarios in which additional tax rates are extended to carbon-intensive goods and revenues are recycled through targeted transfers and subsidies. These scenarios reverse the increase in emissions and achieve reductions with relatively limited welfare losses, particularly when revenues subsidize lower-emission food consumption. Our findings show that targeted environmental taxation combined with compensatory transfers can better align tax policy with climate goals without sacrificing distributional objectives.