Monday, July 11, 2011

Is the 'great big new carbon tax' a good idea?

I am using that emotive description of the new tax because I have previously suggested on this blog that a great big new carbon tax might not be a bad idea if it replaced other taxes that are having adverse effects on economic incentives. So, how good is the carbon tax package announced by the prime minister yesterday?

The first point that needs to be recognized in assessing the package is that it only makes sense if it is viewed as a signalling exercise. By itself this package will have a small impact on carbon dioxide emissions in Australia, a tiny impact on the world-wide emissions and an almost negligible impact on the stock of global emissions and global climate. Its impact depends almost entirely on the extent to which it may help to encourage people in other countries to take similar action to reduce their carbon dioxide emissions. If there is sufficient action by other countries more investors may come to expect that development of more efficient alternative technologies is likely to become a profitable venture.

The incentives that the tax provides for development of more efficient alternative technologies are the critical factor in whole exercise. If the world community ever gets serious about making substantial reductions in global emissions, the economic cost will be massive unless low-cost technologies are developed for energy generation and/ or removal of carbon dioxide from the atmosphere. Unfortunately, the proposed tax is unlikely to induce many people to rush into investing in development of new technology.

The tax cannot credibly be claimed to be anything other than a modest step by a small country. The longer term promises about the extent of reductions in emissions that are aimed for have little credibility. At best, the proposed carbon tax provides a weak signal of Australia’s willingness to participate in global action to reduce greenhouse gas emissions. The signal would be stronger if there was bipartisan support for the tax – but even if it is introduced and remains in place it will not amount to much in a global context.

Why don’t we hear the government arguing that ordinary people should be prepared suffer some pain in order to save the world from a climate disaster? The government is not talking about pain. It seems to have reasoned that since it will be obvious to almost everyone that the contribution of the tax to saving the world will be extremely modest and contingent on similar action by other countries, the tax can only be justified to Labor’s traditional voters if they suffer no pain. The package is being sold to the government’s traditional supporters as a redistribution measure that will actually improve their lot at the expense of the big polluters. And it is all being done in the name of ‘tax reform’!

Could anyone object to a new tax being used to fund reforms that will make the overall tax system more efficient? I imagine that such a proposal would have widespread support. The question that must be asked, however, is whether the proposed increase in the tax-free threshold should be viewed as a reform.

My concern is that the proposed tax relief will do very little to improve the work incentives faced by people with low incomes because it will leave effective marginal tax rates largely unchanged. The government has missed an opportunity to undertake some meaningful tax reform that might raise productivity. If this carbon tax package can be sold as economic reform, then the meaning of economic reform has changed beyond recognition and new words will have to be found to describe policy actions that will raise productivity.

In proposing to raise the tax threshold the government can claim to have followed a recommendation of the Henry review.
However, there is a strong case that greater tapering of welfare benefits would be a better way to tackle poverty traps.The relative merits of increases in the tax free threshold and greater tapering of welfare benefits as means of reducing poverty traps was discussed by David Ingles in a paper for the Australia Institute last year. Ingles suggested:  'In general, the recommendations of the Henry Tax Review are a slight improvement on the current situation but they do not address really fundamental issues and lack a coherent underlying rationale'.
In my view, Ingless goes too far in suggesting that the recommendations of the Henry review lack a coherent underlying rationale, but I can't see a coherent rationale in the way the government is cherry picking the recommendations of that review.


Shona said...

Irrespective of the structure of the proposed tax, don't you think it is wonderful that average Joe is now thinking and talking about environmental issues, and because of potential cost implications, thinking about how they can perhaps minimise those cost rises to their own pocket? Sure, the Government has a huge potential to make mistakes (and no date has or will make many), hurt Joe's employment chances if it doesn't tread carefully, but that asside, I think it is a truly wonderful thing. Whether it should have wrapped this up in other tax reforms - well, I think that was a political/opportunistic move, but as you say, was a bit have arsed.

Winton Bates said...

Yes Shona. I think it is good that people are talking about the issues.
I am not thrilled about the tone of the public debate, but tax issues do tend to generate a fair amount of heat and not much light. I have just been reminded that Paul Keating as prime minister ran an extremely negative campaign against John Hewson's proposal for introduction of the GST and won an election on that basis - after having proposed introduction of a GST himself just a few years previously.

Whatever happens in Australian politics, the world isn't going to end in the near future(the risks don't seem to be huge for the next few years anyhow) and Australia can be relied upon adopt a policy that is broadly consistent with whatever strategy the major emitters eventually agree upon.

Anonymous said...

I greatly embarrissing to be an Australian right now. People buying into the rubbish spouted by the Liberals and nationals about this issue and so many more. These people pose a bigger risk to our future possibly then climate change.These policies are smart and are required not just for the environment but also for the long term viability of capitalism. The first Industrial revelution was a failure, we need to tweak our systems in this way to get rid of the dowms sides of our ecconomies namely polution and non innovation. All those whinging right wing selfish fools deserve to be beaten about the head. I'll do it. I'm a 6 ft 2 90 kg aussie bastard who is sick of bogans sabortaging my future and my sons future, I'll soon take things into my own hands. Come on Australia show me you've grown up.

Winton Bates said...

Hi Anon. Thanks for expressing your views on my blog rather than 'beating people around the head'.

Actually, if you don't mind me saying so, people would be more inclined to take notice of your comments if you left your name. A big bloke like you can't have too much to be worried about!