Eureka! Now impose a carbon tax

Published Dec. 21, 2012

Recently discovered oil and natural gas deposits and the technology to extract them have fostered a national energy boom. Soon the United States may lead the world in energy production and perhaps in energy exports as well.

As these finds are bought to market, much more of the nation's future energy demands will be fulfilled from the Lower 48 and at a much lower cost. As an early indicator, prices for electricity production and gasoline are already in decline.

This is a game-changing development. Lower-cost energy can enable us to stop using energy produced in high-cost and dangerous locations. Moreover, we can slow down and perhaps stop using energy from sources like coal and Canadian shale that emit greenhouse gases at a high rate. In addition to lower energy costs and reduced emissions, these new sources will reduce our exposure to the dangers of massive spills and disruptions of imports from hostile suppliers.

Unfortunately, although these new sources emit less carbon than those they will replace, they are themselves fossil fuels that emit significant amounts of carbon. By slowing the rate of emissions, they can delay the worst effects of carbon dioxide concentration while permitting time to develop non-fossil fuel alternatives and more efficient transportation and energy grids. Perhaps they should be viewed as a chance to make a gradual transition to a sustainable future, and avoid suffering either a massive environmental disaster or a great depression caused by sudden abandonment of the fossil-fuel-based economy that we've become dependent upon.

Without price regulation these new sources will increase supply and drive down fossil fuel prices. At such low prices, the progress on more expensive alternative fuels will be greatly discouraged. When energy markets are allowed to function freely, price induces society to use the least-expensive energy sources ahead of the next least expensive, etc. Energy use can be sped up with subsidies that reduce consumer prices, or it can be slowed down with taxes that raise consumer prices. Historically, we have chosen to subsidize exploration and extraction activities, reducing prices and increasing consumption of domestic oil and gas resources.

These subsidies have made it profitable to mine Canadian shale and to drill in the Gulf of Mexico and in Alaska, while making it much less profitable to develop non-fossil fuel alternatives. If the new energy sources are to be transition fuels, rather than the basis for another round of greater fossil-fuel dependency, they must be priced properly.

To avoid underpricing, economists recommend a "carbon tax" that would add more to the price of high-emission energy sources and less or nothing to the price of those sources with low or zero carbon emissions. For decades, they have argued that unregulated markets underprice energy because they do not reflect costs, such as environmental damage caused by heat-trapping gas emissions, that are "external" to buyer-seller transactions. Without a carbon tax, the new energy supplies would drive prices lower, and consumers and manufacturers can be expected to increase their fossil fuel energy usage, setting off another round of development incompatible with a livable climate.

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The intent of the carbon tax is to change relative prices in the market, providing an economic incentive to use low-emission fuels instead of high-emissions fuels. Under a carbon tax, coal prices would include a very heavy tax due to its high carbon emissions, while pricing of natural gas would include a tax about half that much. Non-fossil fuels, like wind and solar, would have a very low carbon tax since their energy production requires only a small amount of backup fuel. Most important, the carbon tax would encourage the growth of non-fossil fuel alternatives by preventing the new oil and gas supplies from driving down the price to the final user.

The revenues generated by the carbon tax should be used to reduce the national debt and deficits. That is, to sell the idea of a new tax — always a difficult task — the public must see an offsetting economic benefit in addition to environmental benefits. Once the debt becomes more manageable, the revenue could be used to reduce other taxes. The time to impose the carbon tax is now. New energy sources seem to present the last clear choice we have to either cook the planet or to maintain a livable climate, and the revenue would help the "fiscal cliff" negotiators meet their deficit-reduction goals.

William L. Holahan is emeritus professor of economics at the University of Wisconsin-Milwaukee. Charles O. Kroncke, retired dean of the College of Business at UW-M, also recently retired from USF. They are co-authors of "Economics for Voters." They wrote this exclusively for the Tampa Bay Times.