Ecological Fiscal Reform: A Primer

By Kathy Kattenburg

Climate change is, arguably, the single most pressing issue of human survival in the 21st century. Some environmental activists, climate change experts and even the Pentagon say that global warming is a bigger threat to human survival than terrorism and, in fact, acts as a “threat multiplier” – increasing and worsening the conditions that lead to terrorism

Greenhouse gases are not inherently bad – in fact, they are essential because they absorb heat in the upper atmosphere and “radiate” it back down to the planet’s surface. Without naturally occurring greenhouse gases, such as water vapor, carbon dioxide, and methane, atmospheric heat would escape into space, and extreme subfreezing temperatures would make human, plant, and animal life impossible.

The problem comes in when the natural, beneficial effect of greenhouse gases is intensified by industrial emissions, particularly those produced by the burning of fossil fuels. Temperatures on our planet’s surface have been gradually but steadily rising since the 19th century, and in recent years the pace has increased, leading to melting polar ice caps, rising sea levels, and more extreme weather conditions worldwide (think: Hurricane Katrina).

The concept of using economic incentives to reduce greenhouse gas emissions (GGEs) goes back decades, but gained significant traction in the 1990s, after the US Clean Air Act of 1990 set up an emissions trading system (also called cap-and-trade, and the carbon market) to reduce the sulfur dioxide emissions that cause acid rain. The US Acid Rain Program’s success led to the inclusion of cap-and-trade as one of the Kyoto Protocol’s three mechanisms for reducing GGEs. The Kyoto Protocols were adopted in 1997 at the United Nations Framework Convention on Climate Change in Beijing. In 2005, the European Union launched its Greenhouse Gas Emission Trading Scheme: the “largest multi-country, multi-sector Greenhouse Gas emission trading scheme world-wide.”

Cap-and-trade systems use the profit motive to reduce GGEs by “capping” emissions of a specific pollutant and allowing companies within a country or region to trade (sell) “permits” to emit that pollutant as long as total emissions do not exceed the cap. So, for example, if Company A can upgrade its plant at lower cost than Company B, Company A can sell the permits it doesn’t need to Company B, thus giving the latter “permission” to emit the pollutant at higher levels.

The key to a successful cap-and-trade system – of course – is to steadily crank down the cap, raising the cost of emission permits and thus creating incentive to reduce as soon as possible.

Emissions trading works best when the toxin has a global or regional reach. A successful market-based scheme requires that many companies of varying sizes and degrees of operational efficiency exist within the area so that trading can take place.

In smaller localities there may be too few companies emitting a particular toxin, and/or companies’ costs for reducing emissions may be so similar that trading makes no sense. In such cases, carbon taxes may be a better choice. Carbon taxes are pegged to the carbon content of the product or commodity being sold, such as gasoline, coal, or natural gas. Carbon taxes are meant to reduce the usage of said commodity by raising the cost of emitting the waste carbon dioxide from its use. A related concept, tax shifting, lowers taxes in one area, such as income, by an amount equal to the carbon tax. Thus, overall taxes remain the same, but they are lower on activities that benefit society and higher on activities that are harmful.

In the absence of unified responses to climate change by national governments (such as the United States, which refused to sign on to the Kyoto Protocols), regional initiatives are being proposed. One such is the Western Climate Initiative, which, in July 2008, presented its plan for a cap-and-trade emissions reduction system over a geographic area that includes the western part of the United States and Canadian provinces. Details are still being worked out, but the goal is to reduce greenhouse gas emissions by 15% over 2005 levels by 2020.

Countries or regions wishing to benefit from successful models would do well to look at the Swedish carbon tax success story. In 1991, Sweden imposed a carbon tax of 2.34 kronor per liter at the gas pump (2.34 kronor is about 37 cents U.S.). The increased cost of filling their tanks had the effect of cutting usage, and forced Swedes to look for cleaner energy solutions.

The results have been stunning. Over the 16-year period between 1990 and 2006, Sweden cut its emissions by 9%, without sacrificing economic growth, which was 44% during that same period. In 2006 and 2007, Sweden headed the list of countries that were doing the most to combat global warming.