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Getting Carbon Border Taxes Right

Carbon border taxes could help the world move more efficiently toward sustainability. But if such taxes are to be part of a consensual multilateral approach, rather than a new source of conflict, policymakers will have to tackle distributional issues upfront as part of a strategic design, not as an afterthought.

WASHINGTON, DC – A time-honored but often problematic practice in basic welfare economics is to separate efficiency considerations from distributional concerns. In an economy with given endowments and a given distribution of them, the argument goes, there exists a set of prices that will guide competitive behavior toward an efficient allocation of resources. If the result is not desirable on equity grounds, then aseparate set of redistribution policies can be used to achieve a more desirable outcome.

There are, of course, many qualifiers to this proposition, related to imperfect information, incomplete markets, economies of scale, pricing power, and the need for redistribution to be in lump-sum form in order to preserve efficiency. Moreover, redistribution is often politically and institutionally unfeasible. Nonetheless, the “separability” of efficiency from distributional priorities remains a bedrock of the market-economy narrative.

This narrative shapes much of the climate-change debate, particularly the discussion of carbon border taxes, which would equalize the cost of carbon use from domestic and foreign sources, thereby preventing “carbon leakage.” There is little point in having unilateral carbon taxes in a world in which carbon dioxide emissions can be offshored from carbon-pricing countries to non-carbon-pricing countries, leaving total emissions much the same.