Why Jamus Lim Is Wrong On Carbon Taxes

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Many carbon tax advocates — such as the Workers Party economist Jamus Lim — tend to hedge their support for the tax hike on a conditional rebate (see here). It stems from the recognition that making energy more expensive will create some negative consequences such as higher consumer prices, job loss etc, so there is a need to compensate the ones whom are hurt by the tax via rebates, tax reductions, etc. We can all at least agree on that.

The problem is that cash rebates to the poor don’t easily compensate the long-term costs of carbon taxes. Carbon taxes differ from other types of broad-based taxes on labour and consumption because it is targeted at a much narrower tax base (which makes it easier to avoid). This matters because it means carbon taxes create a larger distortionary effect that ripples through the economy.

A carbon tax primarily penalises high energy consumption activities first. In Singapore, this would apply to the bulk of the economy since 79% of total electricity consumption comes from industrial and commerce-related activities (household energy consumption make up only about 15%). These producers will then react to the rise in energy costs by scaling back investment and production.

This then in turn hurts economic productivity as a whole. Eventually, this will manifest in job losses — most noticeably in oil & gas but overtime also in other industries — and a rise in prices of goods that we see in supermarkets, how much transportation costs, etc.

To put it very simply, carbon tax advocates imagine a 1-for-1 exchange where the government can send a low-income family $150 to offset a higher electricity bill this month due to the carbon tax (and thereby achieve revenue neutrality). But that is a pipe dream. It’s nice in theory, but impossible in practice. The costs to the poor will be a lot higher than $150, and these costs slowly manifest in many daily economic activities when economic productivity slumps (for a more technical explanation of this, see the tax interaction effect here).

Funding government spending for other environmental policies with the tax revenues of a carbon tax is also generally a bad idea. Tax economists widely agree that narrow-based taxes like carbon taxes raise taxes far less efficiently than broad-based labour/consumption taxes, particularly due to the way it hurts the economy. I agree with Jamus Lim that the government should orientate spending toward more environmentally-friendly infrastructure (as it has been for many years), but these tax revenues should be raised through broad-based taxes instead, as it would be far more efficient.

Going green and reducing emissions is a worthy pursuit. But to reiterate, the carbon tax is the wrong answer. If anything, the existing carbon tax should be abolished. Public investment in greener and more economically efficient technologies, educational initiatives to nudge consumer behaviour towards less wasteful activities and cap and trade policies are all better policy tools that will hurt the poor a lot less.

Donovan Choy is a Visiting Research Fellow at the Adam Smith Center Singapore. He is co-author of the book Liberalism Unveiled: Forging a New Third Way in Singapore, a classical liberal analysis of Singapore’s policy discourse.

Classical liberal. I love the Wu-Tang Clan, Spaghetti Westerns and anything Aly & Fila.

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