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Carbon compromise?

In a remarkable and clear oped "A Conservative Answer to Climate Change" James Baker and George Shultz lay out the case for a carbon tax in place of the complex, cronyist and ineffective regulatory approach to controlling carbon emissions.A plea to commenters. Don't fall in to the trap of arguing whether climate change is real ...

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In a remarkable and clear oped "A Conservative Answer to Climate Change" James Baker and George Shultz lay out the case for a carbon tax in place of the complex, cronyist and ineffective regulatory approach to controlling carbon emissions.

A plea to commenters. Don't fall in to the trap of arguing whether climate change is real or whether carbon (and methane) contribute to it. That's 5% of the debate. The real debate is how much economic damage does climate change actually do. Science might tell us that the temperature will warm 2 degrees in a century, with a band of uncertainty. But the band of uncertainty of the economic, social and political consequences of 2 degrees is much bigger. Moreover, the band of relative uncertainty is bigger still. Does "science," as the IPCC claims, really tell us that climate change is the greatest danger facing us -- above nuclear war, pandemic, state failure, and so on?

And most of all, given that our governments are going to do something about climate change, how can we do something much more efficient, and (plea to environmentalists) much more effective? That's the question worth debating.

Both sides have fallen in to the trap of arguing about climate change itself, as if it follows inexorably that our governments must respond to "yes" with the current system of controls and interventions. The range of economic and environmental effects from the "how" question are much, much larger than the range of the effects of the "is climate change real" question.

So, Baker and Shultz lay out in gorgeous clarity the kind of compromise we all hope our governments can still occasionally achieve: Given that we're going to do something, trade a carbon tax for the removal of intrusive regulation. You get more economy and less carbon.

The oped refers to a report from the Climate Leadership Council, which is here and worth reading. The Niskanen Center has also been championing the case, and reaching out to environmental groups.

There is a natural bargain, if our political system can get around its current habit of take-no-prisoners maximalism.

Environmental groups that really care about carbon are starting to realize that the current system produces symbolism at great cost but will never produce the kind of carbon reductions they think are necessary. High speed trains and electric coal-powered cars may make you feel good, but they don't make a dent in carbon. They are also realizing that climate is swallowing up the world's attention for other pressing environmental problems. Endangered species need habitat, now, not 2 degrees cooler in a century. People are dying of dirty water and particulate pollution now. Yes, they'd prefer carbon tax and controls, since they don't trust the tax incentive alone. But given the choice, I've met serious environmentalists who would take the deal.

Alas, the sad fate of the Oregon carbon tax is not encouraging. Maximalism won. Some large environmental organizations are going to have to realize, in the current era, this is their best deal. Perhaps staring in the face that waiting for a progressive uprising that takes back house, senate, presidency, state legislators, governors, and turns back to tide of global nationalist populism, allowing regulations of the scale that actually would cut back carbon --without using nuclear power -- will induce a little deal-making will. It also feels good to be part of the "resistance," but the climate keeps warming while you feel good.

Those on the other side, horrified at the waste, cronyism, and economic damage of our current controls would prefer nothing, and hence keep arguing about the science. But a straightforward carbon tax would be immensely less distorting than what they will get otherwise. This one will not go away. Removing energy regulation, even with Rick Perry in charge of DOE, will be a miserable mess against an entrenched and very politically effective opposition. If you can get them to accept the deal, it will go much more easily than trying to shove no carbon regulation down their throats.

Of course, the major problem in any deal is trust. The environmental side may not trust that carbon taxes will be high enough to abandon command and control. And the market side certainly does not trust that controls will be removed, or not reimposed -- especially given the large amount of money that green subsidy-seekers can get from them.

Minor quibbles: The oped and council report refer to steadily increasing carbon taxes. Ideally, in my view, a big advantage of the carbon tax is that it is easily adjustable -- much more adjustable than direct controls. Implement a carbon tax at say $40 a ton. Keep fighting about the science, and the level of the carbon tax. There is uncertainty about the science, face it. Once in place it's easier to raise if we learn carbon is a bigger problem than thought, and vice versa.

Also, I think it will be much easier to agree on the principle of a carbon tax if each side knows it can keep fighting about the rate than if they have to agree on the principal of carbon tax + deregulation and the rate, and the schedule of future rates. (Generally, I think things would go much better to debate the structure of the tax code separately from the rates.)

Not mentioned, of course, is that it is vital for a tax like this that the law forbid any of the special credits and deductions that people will instantly start asking for. "Family farmers can't pay the carbon tax on their diesel fuel....; low income americans need a break so they can drive to work...." The incentive to make every single tax redistributive is strong.

Second, what to do with the money? Greg Mankiw has, on other occasions, argued that the carbon tax revenue should offset other, more distorting taxes. It is a double-whammy -- most taxes, in order to raise revenue, reduce some desirable economic activity. A carbon tax, to raise revenue, reduces an undesirable economic activity. As a matter of economics, Greg is exactly right.

The Oped and council propose instead that the tax is rebated to Americans, so the tax is revenue-neutral. That is, I think, politically attractive. A $2,000 check to each taxpayer is a nice way to build a political consensus for keeping the carbon tax, much as using the tariff to fund civil war pensions kept a strong pro-tariff constituency in the late 1900s. In a previous post, I suggested carbon rights instead: Each American owns the rights to emit X tons of carbon, which he or she sells on an electronic marketplace. Or throws away, if they want to do their bit. That too gives people a stake in keeping the system going.

But we should be clear when as economists we are treading into political waters. Giving up on a optimal tax in order to produce political support for a project is the kind of tradeoff that we're not as good at as we are at figuring out optimal taxes in the first place, and figuring out compromises between current political groupings is really not our strong point. Perhaps it would be better to outline the possibilities -- rebate if you think it's politically necessary, use to eliminate other distorting taxes if you can -- and let politicians figure that one out.

Quibbles over.

I must add that Shultz is an inspiration. I hope that at 96 I can write opeds half this good. Heck, I wish I could do it now!

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John H. Cochrane
In real life I'm a Senior Fellow of the Hoover Institution at Stanford. I was formerly a professor at the University of Chicago Booth School of Business. I'm also an adjunct scholar of the Cato Institute. I'm not really grumpy by the way!