Mankiw on a carbon tax

September 16, 2007 by Tom Armstrong.

Mankiw is an advocate of a carbon tax, as opposed to a cap-and-trade system. He is concerned with protecting the environment and seeks the best policy in which to achieve this desired end. I have no problem with a carbon tax, if your goal is to reduce CO2 emisions. I do, however, see a problem in the following logic, which is taken from Mankiw’s NY Times piece today:

Yet this natural aversion to carbon taxes can be overcome if the revenue from the tax is used to reduce other taxes. By itself, a carbon tax would raise the tax burden on anyone who drives a car or uses electricity produced with fossil fuels, which means just about everybody. Some might fear this would be particularly hard on the poor and middle class.

But Gilbert Metcalf, a professor of economics at Tufts, has shown how revenue from a carbon tax could be used to reduce payroll taxes in a way that would leave the distribution of total tax burden approximately unchanged.

Mankiw first says that we can reduce the quantity demanded of polluting goods–such as gasoline for cars–by increasing the price of it through a tax. That’s fine, no problems there. Then he goes on and says that we can reduce the tax burdon elsewhere, implying that consumers’ disposable incomes would remain constant after the tax increase and coinciding cut. Here, yes, I do have a problem.

With just a carbon tax that increases the cost of fuel, one’s real income would decrease, so, yes, participants in the fuel market would economize on fuel. With offsetting cuts, however, real income would remain the same, so, in other words, coinciding tax cuts could be used to maintain the current rate of fuel consumption. Mankiw is trying to have his cake and eat it too. Only a tax increase with no corresponding cuts would reduce carbon emisions.

Problems with my logic? Let me know. I don’t like to disagree with Mankiw because, after all, I learned my basic economics reading his textbooks. I believe that he’s just being careful with his words because of his relationship with Mitt Romney.

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