Resident Scholar Kenneth P. Green

Mr. Pizer raises an important, if subjective question: which carbon control system is more likely to be well-designed. I suspect this is where we will have to agree to disagree. Mr. Pizer thinks an emission-trading regime would be more likely to embody the set of features we both agree upon, while I believe that a revenue-neutral carbon tax is more likely to do so. To me, the answer to this question lies in the nature of the incentives created along the way, and the institutional transparency that tends to limit overt corruption.

In an emission-trading regime revenue would flow largely from consumers to for-profit, private-sector entities that claim reduced emissions, and to the many traders and auditors that would be involved in the process. One has to presume the profit incentive offered would lead participants to push the limits of legality at all stages in the process, from the assessment of historic emissions; to efforts to claim routine equipment upgrades as credit-worthy actions; to lobbying against an auction; and, in some cases, to outright false-credit generation. There is also potential for profiteering at the consumer's expense. If one pays a business for not doing something, they'll gladly take the money and save the labor. If we pay mildly-profitable companies more in carbon credits than they can make via product sales, a goodly percentage will take the credits and reduce productive output, curtailing consumer choice. Most importantly, under an emission-trading regime, every entity that profits has an incentive to not only perpetuate the scheme, but to push for more restrictive carbon caps, while groups paying out will lobby for the right to buy cheap (unverifiable) credits abroad. Finally, most companies would have incentive to avoid revealing how much of their price fluctuations are caused by the carbon-permit market, both to please regulators, and to preserve secrecy about their profit margins.

While a carbon-tax regime has some latitude for cheating (understating emissions) and economic distortion (tax shifting), the incentives for most other forms of cheating, such as lobbying for tighter caps; seeking credit for business-as-usual investments, creating false sequestration credits; reducing useful output; and so on are negative. Very few companies will see a potential profit in an increase in the carbon tax, or be willing to spend money lobbying for it. The normal tax aversion of the public would serve as a useful check on the stringency of a carbon tax. And the fixed value of a carbon tax could easily be displayed on the gas pump, on an electricity bill, or on a natural gas bill. The rebate could be easily seen on a tax return.

For these reasons, I believe a carbon tax regime would be superior to an emission-trading regime for greenhouse gas emission control.

Kenneth P. Green is a resident scholar at AEI.