A Carbon Tax Is Not a Slam Dunk
By David Henderson
Advocates of a carbon tax argue, correctly, that a tax is a much better way to reduce carbon usage than any system of regulations could be. The reason is that every use of carbon that creates carbon dioxide imposes damage, and a carbon tax based on the amount of carbon dioxide created will cause everyone who creates carbon dioxide to, indirectly, take that damage into account. The carbon tax beautifully scales the payment to the damage: those who create more damage pay more in carbon taxes.
By contrast, a system of regulations or subsidies that favors one energy source over another, or one energy use over another, depends on central planners having information that they cannot possibly have. So, for example, if government planners require that a certain percentage of energy usage come from solar, they do not take account of the cost of solar and they foreclose ways of producing energy, such as natural gas, that produce less carbon dioxide than other ways, such as coal. A carbon tax, by contrast, automatically pushes electricity production away from coal and towards natural gas. As a bonus, if, under a carbon tax regime, solar energy turns out to be less expensive than natural gas, the market will push energy production more in the direction of solar.
That reasoning is fine—as far as it goes. But it doesn’t go far enough. The reason is that economists who advocate Pigovian taxes take as given that the most-efficient way to forestall global warming is to reduce the amount of carbon used. But what if their assumption is incorrect?