Good tax policy to increase acceptance of CO2 prices

A new MCC study shows that earmarking, transparency and fair distribution are often decisive. Switzerland could serve as a role model.

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The political feasibility of CO2 prices depends less on their cost efficiency and benefits to the economy, but much more on their acceptability to the population. In order to increase the latter, earmarking revenues, a transparent tax policy and the compensation of low-income households—for example by an annual cheque for each citizen—are particularly important. These are the results of the new study "Making Carbon Pricing Work for Citizens" published by researchers from the Mercator Research Institute on Global Commons and Climate Change (MCC) together with scientists from Oxford University, the London School of Economics and other institutions in the journal Nature Climate Change.

The results are particularly relevant with a view to the current discussion about carbon prices in Europe. In Germany, Economy Minister Peter Altmaier (CDU) recently spoke out against the introduction of a CO2 price. His cabinet colleague, Environment Minister Svenja Schulze (SPD), in contrast, has repeatedly advocated carbon pricing. The German energy companies Eon and EnBW are also committed to this instrument in order to avoid bad investments. Elsewhere, French President Emmanuel Macron has proposed a carbon price floor of 30 euros per tonne for the EU, while the UK already has a minimum price of around 20 euros. Nevertheless, only about 20 percent of global emissions are covered by carbon pricing schemes—and these prices are mostly below the 40 to 80 US dollars per tonne range. This, however, is the required level to achieve the climate targets agreed upon in Paris in 2015. 

The scientists show different ways that sufficiently high CO2 prices could be politically implemented: Among other things, a transparent communication of the costs and benefits of a carbon tax reform as well as the careful consideration of social and economic circumstances in different regions are key. Depending on these circumstances, tax revenues could, for example, be redistributed to the population via an annual payment to each citizen or finance a reduction in corporate taxes to increase productivity. Such recycling schemes would increase public acceptance of climate policy. 

"The willingness to pay a certain carbon price depends largely on political, economic and cultural convictions as well as trust in politics," says lead author David Klenert. "For example, citizens in Germany and China are more willing to pay a higher CO2 price, if they have a higher educational achievement or are politically left-green. In the US, on the other hand, the general attitude towards taxes and subsidies is more important. This must be taken into account when drafting a tax reform."

If doubts about the steering effect of a CO2 price are a major obstacle to its introduction, the use of revenues for sustainable investments can increase acceptability. If distribution concerns are the biggest obstacle to higher carbon prices, climate dividends or transfers to the poor are superior to other redistribution mechanisms. If, instead, efficiency and competitiveness are the biggest concerns—for example in countries with CO2-intensive industries that are heavily exposed to the world market—exemptions for companies through transfers or tax cuts could be better. In reality, a mixture of the above options is often optimal, since several points have to be addressed simultaneously. 

For their research, the scientists compared the findings on the optimal use of carbon price revenues from traditional economic analyses with current findings from behavioral and political science studies on public acceptability. They then contrasted real-world carbon pricing regimes with theoretical insights on distributional fairness, revenue salience, political trust, and policy stability. From this they derived recommendations for action to improve support.

"The political acceptability of CO2 prices stands or falls with a communication that emphasizes the advantages more strongly," says MCC director Ottmar Edenhofer, who is also the designated director of the Potsdam Institute for Climate Impact Research (PIK). "In view of the rising inequality in industrial nations, it would be very helpful to emphasize how much such a climate policy could benefit poorer households. In addition, it is sometimes advisable to speak of a 'fee' or a 'contribution' rather than a 'tax', since the term 'tax' has negative connotations for many citizens.”

Switzerland is a good example: The state calls its CO2 pricing system a "CO2 levy" and transparently breaks down the use of revenues with one third for sustainable public investments and two thirds for citizens and the private sector. In 2017, each household received around 60 euros as a reimbursement. However, the scientists are aware of the political hurdles and urge decision makers to hurry. In their study they write: "The successful implementation in 2008 was the result of 15 years of political efforts, popular vote defeats and concessions to industry.”

Reference of the cited article:

Klenert, David; Mattauch, Linus; Combet, Emmanuel; Edenhofer, Ottmar; Hepburn, Cameron; Rafaty, Ryan; Stern, Nicholas (2018): Making Carbon Pricing Work for Citizens. Nature Climate Change