CGE Analysis of the impact of a carbon energy tax

1CGEAnalysisoftheImpactofaCarbonEnergyTaxontheIrishEconomyWiepkeWissema*1andRobDellink21DepartmentofEconomics,TrinityCollegeDublin,Dublin,Irelandand2EnvironmentalEconomicsandNaturalResourcesGroup,WageningenUniversity,Wageningen,TheNetherlandsABSTRACTAcomputablegeneralequilibriummodelwithspecificdetailintaxationandenergyuseisdevelopedinthispapertoquantifytheimpactoftheimplementationofenergytaxationtoreducecarbondioxideemissionsinIreland.WefindthatthereductiontargetforenergyrelatedCO2emissionsinIrelandof25.8percentcomparedto1998levelscanbeachievedwithacarbonenergytaxof10-15europertonneofCO2.Thoughfuelswitchingisanimportantpartofachievingthetarget,thesensitivityanalysisshowsthatthisresultissensitivetothepossibilitiesforproducerstosubstituteawayfromenergyuse.Welfarewouldfallbutonlybysmallpercentages.Productionandconsumptionpatternswouldchangemoresignificantly,astherewouldbeashiftindemandfromfuelswithahighemissionfactortoenergysourceswithalowercarbon-intensityandfromenergytoothercommodities.Thispapershowsthatacarbonenergytaxleadstogreateremissionreductionsthananequivalentuniformenergytax.Theuniformenergytaxhasastrongernegativeimpactonthelesspollutingenergysectorswhereasthecarbontaxgreatlystimulatestheuseofrenewableenergyandreducestheuseofpeatandcoal.*Correspondingauthor:[e-mail]matechangeisatthetopoftheenvironmentalagendaintheEuropeanUnion(EU).Itiscausedbytheaccumulationofgreenhousegases(GHGs)intheEarth’satmosphere.GlobalpoliticaleffortstoreducethisproblemledtotheagreementoftheKyotoProtocolin1997.TheProtocolsetstargetstoreducetheanthropogenicemissionsofGHGs.AspartoftheEUburden-sharingagreement,Irelandhastolimitaverageannualemissionsintheperiod2008-2012to13percentabove1990levels.DuetostrongeconomicdevelopmentinIrelandinthe1990s,emissionsarealreadywellpastthistargetandIrelandhasthehighestpercapitaemissionsinEurope.Irelandalsofacesoneofthewidestgaps(nearly18percent)betweenforecastedemissionsunderabusiness-as-usualscenarioandthetarget(Indecon,2003).Tomeetthetarget,specificgovernmentpolicyisrequiredandtheeconomywillhavetoundergostructuralchanges.ThegovernmentofIrelandhaspublishedaNationalClimateChangeStrategy(NCCS)thatsetssectoraltargetsandproposesbothsectoralandcross-sectoralmeasures.Theaimofthestrategyistomeetthetargetsandtominimisethecostsofimplementationfortheeconomyasawhole(DoE,2000).KeymeasuresintheStrategyare·tograduallyintroducetaxationfrom2002,prioritisingtaxesaimedatCO2emissions;·toparticipateinthepilotEUemissionstradingschemeandininternationalemissionstrading.TheMinisterforFinanceindicatedinhisBudgetspeechfor2003thatthegovernmentwasproposingtointroduceacarbontaxin2004.In2005,however,thetaxwasstillnotimplementedandthisproposalwasabandonedaltogetherduetofearsforitsimpactoncompetitiveness.Oilpriceswerealreadyincreasingstrongly.SinceJanuary2005,the109installationsemittingmostCO2havebeenparticipatingintheEUemissionstradingscheme.Thepriceofpermitshasvariedbutrecentlyhoversaround20europertonneofCO2.In1992,FitzGeraldandMcCoycarriedoutthefirstempiricalworkassessingthemacro-economiceffectsofimposingacarbontaxontheIrisheconomy.Thefindingswerethatataxof30europertonneofCO2in2002prices1wouldincreasetaxrevenuebyalmost2percentofGNP.Theoverallimplicationsfortheeconomydependedonhowtherevenuefromthetaxwasspent.ThemodeltheyusedwastheESRImacro-economicMediumTermModel(HERMES)supplementedbyanenergysub-model,whichhasafixedfuelsmixanddoesnotincorporateexplicitenergyconsumptionbyhouseholdsortheservicessector(FitzGeraldandMcCoy,1992).Conniffeetal.(1997)estimatedthecostofabatementthroughchangesintechnology.Theyfoundthattheelectricitysectorcouldachievesignificantreductionsbyswitchingtogasfiring,butoncethepossibilitieswereexhausted,abatementcostsforthissectorwouldrisesharply.Berginetal.(2002)usedanimprovedversionofHERMESandfoundthatacarbontaxof20europertonneofCO2wouldcosttheIrisheconomyrelativelylittle.However,thistaxwouldnotleadtotherequiredemissionreductionandtheadditionalmeasuressuggestedintheNCCSwouldneedtobefullyimplementedalongwithanearlyimplementationofthetax.Theysimulatedfourwaystousetherevenueandconcludedthat(1)withreducedtaxesonlabourawelfareimprovementispossible;(2)reducingVAThaslessattractiveresultsmacro-economicbutdistributionaladvantages;(3)alumpsumpaymenttohouseholdscouldhave1Atthetime,theproposedECcarbontaxwasequivalentto$10perbarrelofoilorIEP7.47pertonneofCO2.3veryadversecompetitivenesseffectsandleadtolossofoutput,whichinthelongtermwouldaffectincomelevelsandemploymentand(4)alumpsumpaymenttofirmswouldleadtothebiggestlossinGNP.Onlythefirsttwoinstrumentsleadtolowerpricesandlowerwagerateswhichwouldoffsetthenegativeimpactofthecarbontaxoncompetitiveness.ScottandEakins(2002)analysedtheimplicationsofthistaxfortheincomesofdifferenthouseholdgroups.Ifallhouseholdsreceivedanaveragecompensationof247europeryear,allhouseholdgroupsgained,onaverage,fromthereform.Butmanyindividualhouseholdsinlow-incomebracketswouldbeworseoff.Theyrecommendedamoreintegratedanal