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The (predicted) distributional incidence of BC's Carbon Tax

posted Jun 2, 2014, 10:43 PM by Joel Wood   [ updated Jun 2, 2014, 10:54 PM ]
SFU did a bang up job hosting the 2014 Canadian Economics Association conference this past weekend. Their downtown Vancouver campus was an amazing venue for almost 1,000 economists to meet to discuss many important (and many esoteric) topics. One of the best parts about academic conferences is seeing past students, past classmates, past professors, colleagues, and new faces. I finally met Nic Rivers and Lindsay Tedds, two economists that I have interacted with on twitter, but had surprisingly never met in person until now! I also got to sample some of the best eats and drinks in Vancouver: La Taqueria, Meat & Bread, and Steamworks.

As to the research presentations, the most interesting paper I saw presented was on the distributional incidence of BC's Carbon Tax. BC currently has a revenue neutral (or negative!) carbon tax of $30/tonne imposed on the combustion of fossil fuels in BC. An overview of the tax is available on the BC government website here. The tax was implemented in July 2008, and the revenue is "recycled" through many tax measures, the four main ones being: 1) the BC Low Income Climate Action Tax Credit 2) a cut to personal income taxes 3) a cut to the general corporate income tax rate and 4) a cut to the small business corporate income tax rate. The government reports every year their annual budget how the carbon tax revenues will be recycled (there are many problems in how things are done, e.g., what is the counterfactual of what these taxes would've been in 2014, but that is a topic for another day). 

Over the past 6 years or so, many OPEDs have claimed that BC's carbon tax (and associated tax credits and cuts) is regressive.  Here is one by Saltspring Islander Elizabeth Nickson. Consultant Aldyen Donnelly claimed in a 2012 OPED that the BC Carbon tax is " of the most regressive, unfair taxes imaginable" (I can't seem to find the OPED itself online, but here is a quote reproduced on someone's blog). 

The academic research on revenue neutral carbon taxes more generally is ambiguous on whether they are regressive (many predict them to be progressive); however, analysis done specifically on the  distributional impact of BC's tax by Marc Lee and Toby Sanger of the CCPA predicts that BC's tax would be progressive in only the first year, and then become regressive. However, as Nic Rivers noted to me on twitter a long time ago the Lee and Sanger approach ignores changes in factor prices, i.e., returns to capital are reduced as firms charge lower prices than they would've in absence of the tax. So a more thorough BC specific analysis has been needed, so I was very happy that when talking to Nic while walking on the seawall after lunch on Friday he said that one of his grad students would be presenting their work on this the next day. 

The paper is by Hidemichi Yonezawa, Nic Rivers, Marisa Beck, and Randy Wigle. Unfortunately, the paper doesn't appear to be available online yet, but here is the abstract from the CEA website and it sums the paper up quite nicely:

This study investigates the distributional implications of the revenue-neutral carbon tax policy in British Columbia and its revenue recycling. We use a Computable General Equilibrium (CGE) model of the Canadian economy and disaggregate households into deciles by annual income. Our analysis is the first one of its kind in that it analyses distributional implications of the BC carbon tax regime using simulation modeling. Similar CGE analyses of hypothetical carbon tax policies exist for a number of jurisdictions (particularly the U.S.); however, analyses of equity issues related to the real world B.C. carbon tax to date have been largely qualitative. Our results are policy relevant as the BC government recently reviewed the carbon tax regime, five years after its first introduction in 2008, and concluded that the current revenue recycling structure should be maintained. We find that the incidence of the carbon tax in BC falls most heavily on wealthy households, such that the carbon tax appears highly progressive. This is because the incidence of a carbon tax is determined by differences in household sources of income rather than household expenditure patterns. Furthermore, the revenue recycling, which includes corporate income tax cut, personal income tax cut and low income tax credit, exacerbates the progressivity of the tax especially because of the low income tax credit.

What is really interesting, is that even without revenue recycling, the carbon tax is predicted to be progressive, i.e., the "backward shifting" effect trumps the effect from the increased after tax prices of goods and services. One thing that is not clear in the abstract is that their analysis is based on projections of household expenditures using 2005 data. So really what we are talking about here is an ex ante prediction that the BC carbon tax is progressive, rather than an ex post confirmation. Although maybe I misinterpreted something during Mr. Yonezawa's presentation, it could be that they were just projecting from the 2005 data for a counterfactual (i am not sure). 

Needless to say, I am really looking forward to reading the paper once it is being circulated in a working paper format.