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A Tax Mix Change to Reduce Greenhouse Gas Emissions

  • Freebairn, John W.

Placing a price on greenhouse gas emissions using an emissions tax or auctioning tradable permits provide the least cost government intervention to reduce pollution. Initial effects of the charge on pollution include an increase in the relative prices of greenhouse gas intensive products and production processes to reduce pollution, and a net increase in indirect taxes with a windfall boost to government revenue. There are at least three overlapping sets of economic efficiency, equity and political acceptance reasons for returning most of the windfall revenue gains to households as compensating income tax reductions and increases in social security payments as a tax mix change package. Most of the indirect tax increases will be passed onto consumers as a higher cost of living, albeit with changes in relative prices. With a likely regressive incidence, some compensation in a close to lump sum form has both equity and political acceptability claims. With no changes in market wages and nominal interest rates, the higher cost of living will further distort the effects of existing income taxes on labour and capital market decisions and their associated efficiency costs. Or, the cost of living increase will provide a catalyst for compensating increases in market wages and nominal interest rates, with the added risk of initiating an inflationary cycle. A tax mix change package has the potential to neutralise the negative effects of the associated increase in indirect taxation. Given the expected time path of increases in the pollution charge on greenhouse gas emissions, and of the windfall increase in indirect tax revenue, the details of new tax mix change package will need to be renegotiated every few years.

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Paper provided by Australian Agricultural and Resource Economics Society in its series 2011 Conference (55th), February 8-11, 2011, Melbourne, Australia with number 100551.

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Date of creation: 2011
Date of revision:
Handle: RePEc:ags:aare11:100551
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  1. Ian W. H. Parry & Roberton C. Williams III & Lawrence H. Goulder, 1997. "When Can Carbon Abatement Policies Increase Welfare? The Fundamental Role of Distorted Factor Markets," NBER Working Papers 5967, National Bureau of Economic Research, Inc.
  2. A. Lans Bovenberg & Lawrence H. Goulder, 2001. "Environmental Taxation and Regulation," NBER Working Papers 8458, National Bureau of Economic Research, Inc.
  3. Cameron Hepburn, 2006. "Regulation by Prices, Quantities, or Both: A Review of Instrument Choice," Oxford Review of Economic Policy, Oxford University Press, vol. 22(2), pages 226-247, Summer.
  4. Coutts, K. & Norman, N.R., 2001. "Global Influences on UK Manufacturing Prices 1970-2000," Department of Economics - Working Papers Series 819, The University of Melbourne.
  5. Abbas Valadkhani, 2005. "Goods and Services Tax Effects on Goods and Services Included in the Consumer Price Index Basket," The Economic Record, The Economic Society of Australia, vol. 81(s1), pages S104-S114, 08.
  6. Sijm, J. & Neuhoff, K. & Chen, Y., 2006. "CO2 cost pass through and windfall profits in the power sector," Cambridge Working Papers in Economics 0639, Faculty of Economics, University of Cambridge.
  7. Gilbert E. Metcalf, 2009. "Designing a Carbon Tax to Reduce U.S. Greenhouse Gas Emissions," Review of Environmental Economics and Policy, Association of Environmental and Resource Economists, vol. 3(1), pages 63-83, Winter.
  8. Flavio Marques Menezes & John C. Quiggin & Liam Wagner, 2009. "Grandfathering and Greenhouse: The Role of Compensation and Adjustment Assistance in the Introduction of a Carbon Emissions Trading Scheme for Australia," Energy Economics and Management Group Working Papers 3-2009, School of Economics, University of Queensland, Australia.
  9. Bovenberg, A.L. & Goulder, L.H. & Jacobson, M.R., 2006. "Costs of Alternative Environmental Policy Instruments in the Presence of Industry Compensation Requirements," Discussion Paper 2006-127, Tilburg University, Center for Economic Research.
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