Effective energy taxes, long term climate policy and energy efficiency

11 June 2014

Portrait of Dr David Bonilla

by Dr David Bonilla
James Martin Fellow, Institute for Carbon and Energy Reduction in Transport

Research focuses on transport economic research, in particular the contribution that economics can make to the analysis of future transport. Areas of special interest include scenario building for transport up to the year 2050, urban economics, vehic...

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The day when we emit the one trillionth of carbon from global emissions is fast approaching. We could get there by the the middle of this century.Our data, and interviews with experts, shows that power generation, transport activities, industry and households are going to face carbon emissions limits.The implications for the world economy and for the transport sector are serious since the latter will be the main source of emissions, if current trends continue. This means that transport will need to decarbonise faster than the other sectors.

We believe a variety of solutions will be needed to decarbonise. Besides behavioural changes that can cut demand for carbon intensive products or services, there are three solutions to minimise carbon emissions: technology forcing measures, levying taxes on energy or pricing CO2 emissions, or creating a market for carbon emissions through a cap and trade system (ETS). The challenge for energy economists is to find ways that do not increase costs on the economy whilst laying out policy measures for effective long term climate policy.

The present European Union Voluntary Agreement (with car makers), the CAFE (corporate average fuel economy) in the US and in China, and the Top Runner in Japan are all insufficient to meet the challenges for climate policy. These regulatory tools only target emissions per kilometre at the equipment level, i.e. the engine. These limits do not control the on-road CO2 emissions and only shift the cost of compliance to future car buyers. The big question is trying to understand how the regulatory tools interact with future carbon taxes and with future technological changes in energy equipment. Some commentators say we already have carbon taxes via the fuel duty levied in all European countries; however, others argue that an additional carbon tax is needed to mitigate CO2 emissions growth.

We need to design intermediate measures to bring the non-stationary sector into a hybrid global carbon tax and emissions trading system. However, we have found many practical challenges in the tax design for four reasons;

  1. This tax would be an economy wide one and it would include the transport sector;
  2. It is very difficult to select a level for capital return that would guide a tax rate for carbon, since there are many kinds of capital with different risk levels;
  3. There are many different sources of carbon emissions (virtually more than a hundred sources of emissions);
  4. It is difficult to invest in a sector with high volatility of carbon prices.

We are, however, puzzled by the lack of large scale investment in green technologies and energy efficiency. Venture capitalists in green energy usually complain of high volatility in the carbon market for the lack of investment. But in the oil sector, for example, there is high volatility but also large scale investmen,t i.e. oil exploration investment.

In our view, to mitigate climate change, the real target variable should be cumulative carbon emissions and not emissions flows per se. The differences between the two measures are commonly misunderstood by many. It seems to us that the ETS implemented by the European Union, only targets the flows of CO2 emissions and not the cumulative levels of these.

An additional issue for introducing a carbon tax is regulatory uncertainty. Future regulations (or laws) governing fuels are surrounded by uncertainty since the legal framework is not designed to react rapidly to changes in carbon emissions, nor to changes within transport or sectoral emissions. In fact, the legal profession is not well adjusted to thinking about the future.

How can we influence public opinion? We can do this through participating in public dialogue through public workshops, international conferences, Twitter, and blogs such as this one. We also need to move towards open systems of innovation so that information can be accessed at no cost. We need to have more information on how decisions are taken regarding our future energy resources.