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PCaMs: Brandon M. Pizzola - Carbon Regulations vs. a Carbon Tax: A Comparison of the Macroeconomic Impacts

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Location: PWBM’s Washington DC Office
Date / Time: Wednesday, May 22, 12:00 PM - 1:30 PM

Brandon M. Pizzola is a Senior Manager with EY Quantitative Economics and Statistics. Formerly he was an MA Fellow at the Mercatus Center at George Mason University. He received his Ph.D. in economics from George Mason University and his Bachelor’s degree from the College of William and Mary.

Carbon Regulations vs. a Carbon Tax: A Comparison of the Macroeconomic Impacts

Abstract: The United States relies primarily on an extensive set of rules and regulations to reduce CO2 emissions. These rules and regulations typically target specific sectors or types of activities and mandate the use of particular technologies and processes or otherwise restrict the choices of consumers and producers. In contrast, a carbon tax, which would place a uniform price on emitting CO2 across the entire US economy, relies on market forces to encourage consumers and producers to find less costly ways to reduce emissions.

This paper uses the EY General Equilibrium Model of the US Economy to compare the macroeconomic impacts of regulatory-based CO2 policies with a revenue-neutral carbon tax that achieves the same reduction in CO2 emissions. Specifically, two alternative approaches for achieving an identical reduction in CO2 emissions are modeled: (1) a stylized representation of US CO2 abatement regulations, and (2) an economy-wide, uniform carbon tax. The carbon price is set to achieve an identical reduction in CO2 reductions as the regulatory approach, thereby providing a consistent framework from which to compare the macroeconomic impacts of the two approaches for reducing comparison CO2 emissions.

An important element of a revenue-neutral carbon tax is that it generates revenue, which creates opportunities inherent with the use of these revenues. The revenue could be used, for example, to reduce preexisting taxes, to fund additional government spending or transfers, or to reduce the federal deficit. To contrast the potential benefits associated with the use of revenue from the revenue-neutral, emissions-equivalent carbon tax analyzed by this paper, three alternative uses for the revenue are considered: (1) permanent extension of expiring individual income tax provisions in the Tax Cuts and Jobs Act and permanent 100% bonus depreciation, (2) investment in public infrastructure (highways, bridges, etc.), and (3) a rebate to households.

This paper finds that a revenue-neutral, emissions-equivalent carbon tax would reduce the same amount of CO2 for significantly less cost in terms of gross domestic product than regulatory CO2 controls. That is, the results suggest that relying on the market-based approach of a revenue-neutral, emissions-equivalent carbon tax instead of regulatory CO2 controls would result in a much more efficient and less costly reduction of CO2 emissions with significant net benefits for the US economy depending on the use of the carbon tax revenues.