Friday, September 24, 2010

Is There a Green Paradox?

This is a good question. Can it really be the case that an increase in carbon taxes could lead to an increase in emissions? Theoretically this is possible.

What about in the real world? I can see the intuition. If I owned a dirty coal field and I could see that the world was turning green and that carbon taxes were likely to increase to such an extent that power stations would be forced to switch to natural gas then my incentive would be to get that coal out and sold as quick as possible.

I could then reinvest the profits in a wind farm somewhere to take advantage of the uneconomic subsidies and feed in tariffs that encourage me to build wind farms where there is very little wind.

A new paper Michael Hoel looks at this issue. One of his conclusions is:

If a sufficiently high carbon tax is introduced, emissions will for sure decline. The possibility of a green paradox is therefore not an argument against the use of a carbon tax, but rather an argument against setting the carbon tax too low.

Perhaps there is some hope. This is an interesting topic for debate.

It should be noted that Professor Peter Sinclair (University of Birmingham) published a paper on the "Green paradox" as early as 1992.

High Does Nothing and Rising Is Worse: Carbon Taxes Should Keep Declining to Cut Harmful Emissions

Peter J N Sinclair

The Manchester School of Economic & Social Studies, 1992, vol. 60, issue 1, pages 41-52

Abstract: It is often that greenhouse gas emissions should be curbed by taxes on activities that generate them. This paper continues the case for taxes on fossil fuels in the context of an infinite-horizon growth model. Under simple conditions, a constant tax rate on energy use is found to exert no real effect: energy taxes just squeeze rents and have no impact on the time-profile of extraction. Expectations of falling energy taxes are what is needed to reduce extraction rates and postpone such adverse consequences that carbon emissions induce.

Here is the new paper:

Is There a Green Paradox?

Michael Hoel
University of Oslo; CESifo (Center for Economic Studies and Ifo Institute for Economic Research)

September 20, 2010

CESifo Working Paper Series No. 3168

A sufficiently rapidly rising carbon tax may increase near-term emissions compared with the case of no carbon tax. Even so, such a carbon tax path may reduce total costs related to climate change, since the tax may reduce total carbon extraction. A government cannot commit to a specific carbon tax rate in the distant future. For reasonable assumptions about expectation formation, a higher present carbon tax will reduce near-term carbon emissions. Moreover, whatever the expectations about future tax rates are, near-term emissions will decline for a sufficiently high carbon tax. However, if the near-term tax rate for some reason is set below its optimal level, increased concern for the climate may change taxes in a manner that increases near-term emissions.

Keywords: climate change, exhaustible resources, green paradox, carbon tax

JEL Classifications: Q31, Q38, Q41, Q48, Q54, Q58
Working Paper Series

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