By James Pethokoukis

The United States needs to think hard about the growth impact of public policy. And that certainly includes tax policy. Do new revenue-raising efforts enhance or erode the efficiency of the US tax code? When there’s a seemingly obvious way to achieve the former — and help tackle climate change — that path merits serious consideration.

More evidence that a carbon tax achieves both goals comes from a new Ernst & Young analysis for the Alliance for Market Solutions, a center-right advocacy group concerned with “addressing two of America’s most pressing challenges: the need to reduce carbon pollution and grow the economy.” The study used a macroeconomic model that assumes three policies designed to raise the same amount of revenue over a ten-year budget window: a 25 percent corporate income tax rate; a $12 per ton carbon price; and a $15 per ton carbon price with a cash grant or rebate to lower-income households. From the study (bold by me):

• Carbon pricing is more efficient at raising revenue than a corporate income tax increase and results in less drag on GDP growth. This result holds when designing a carbon price that addresses potential concerns about regressivity. Moreover, this result does not reflect the additional benefits that would result from climate change mitigation.

• Increasing the corporate tax from 21% to 25% reduces GDP compared to the baseline projections. The revenue-equivalent $12 per ton carbon price decreases GDP by significantly less. Taxing in a relatively efficient manner can significantly reduce the drag on GDP growth. Specifically, in the long run, the increase in the corporate income tax rate reduces GDP relative to the level in the baseline by 0.25% ($60 billion annually when scaled to the 2022 US economy), whereas the $12 per ton carbon price decreases GDP by only 0.05% ($10 billion annually when scaled to the 2022 US economy). 

• When setting a higher carbon price ($15 per ton in lieu of $12 per ton) so as to offset the impact on the bottom two quintiles of households but still raise the same amount of revenue as a 25% corporate income tax rate, the carbon price is still preferable to raising the corporate income tax rate in terms of the relative effect on GDP. In the long run, the increase in the corporate income tax rate reduces GDP relative to the level in the baseline by 0.25% ($60 billion annually when scaled to the 2022 US economy), whereas the $15 per ton carbon price decreases GDP by only 0.07% ($15 billion annually when scaled to the 2022 US economy).

These seem to be reasonable results. Economists generally consider a carbon tax to be a fiscally and environmentally sound way to raise federal revenue. And while no one in Washington expects to fully replace the corporate income tax with a carbon tax anytime soon, even offsetting some of the corporate income tax would be a good idea. AEI tax expert Kyle Pomerleau, via Twitter: “I think we will have both taxes, but it is still an improvement if we, say, reduce the burden of the corporate tax by half with a new carbon tax.” Indeed, it would be.

The post The Merits of a Carbon Tax, Again appeared first on American Enterprise Institute – AEI.