Pricing Carbon

Alexander WoodSenior Director, Policy and Markets

awood@sustainableprosperity.caTwitter: @ALEXatSP

Master 2

Making markets work for the environment 2

Outline

• Why price carbon?

• Case studies of carbon pricing:• British Columbia• Europe• California-Quebec

What is an externality?

Marginal Social Cost

Externality

Marginal Private Costs

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Welfare loss of an externality

Background: Costs of Climate Change

• Climate change will have high costs– $5 billion/year by 2020– Could be as high as $43 billion/ year by 2050 (NRTEE)

• Distributional impacts of climate change: who is causing it and where are the impacts felt ?– Unfortunately, it’s often the people who contribute

the least who have to pay the most (i.e. Northern communities, low income communities etc.)

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Social Costs of Carbon

• Socially optimal price of Carbon– meant to be a comprehensive estimate of climate change

damages and often includes costs such as changes in net agricultural productivity, human health, and property damages from increased flood risk

• Social cost of carbon: the damage on society that comes from emitting one more tonne of carbon dioxide into the atmosphere– The amount of what the social cost of carbon should be set at is

debated• Government of Canada uses a rate of $25/tC• US government recently updated their rate from $23.80/tC to $38

Estimates of social cost of carbon

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Market Based Instruments for Climate Change

Two main instruments:

Cap and trade• sets a maximum level of pollution, a cap, and

distributes emissions permits among firms that produce emissions

Carbon tax• imposes a tax on each unit of greenhouse gas

emissions and gives firms and/or households an incentive to reduce pollution whenever doing so would cost less than paying the tax

Carbon pricing across the world

Case Study: BC Carbon Tax

• Introduced July 1 , 2008, it was North America’s first carbon tax

• Started at $10tC, designed to rise to $30tC in 2012 (current rate)

• Applies to almost all fossil fuel use in the province, including gasoline, diesel, propane, natural gas, and coal

• Covers 77% of the province’s GHG emissions from residential, commercial and industrial sources

• Tax designed to be “revenue neutral”; all revenues used to reduce other taxes through tax cuts and tax relief to low income populations– No overall increase in taxation

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Case Study: BC Carbon Tax

Politically unpopular, future remains uncertain

Since the tax was introduced:

• BC’s per capita consumption of fuels declined by 17.4% (increased by 1.4% in RoC)

• BC’s emissions have declined by 10% (1.1% in RoC)

• BC’s economy has kept pace with the rest of Canada’s

BC Carbon Tax

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European Emissions Trading System (ETS)

• ETS is a EU-wide cap-and-trade system targeting GHG emissions from electricity sector

• A clear example of political commitment to addressing GHGs at economy-wide level, but a poor model for implementation

• Plagued by problems with allocation of allowances, complicated by economic crisis

• Has underperformed and needs reform

European environmental taxation:economic impacts

European environmental taxation: environmental effects

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Practical lessons on carbon pricing

• Recycling of pricing scheme revenues is what determines its economic (and political) impacts

• Price level matters, “forward” price level matters more

• As a matter of political strategy, act early