Trudeau’s carbon tax rebate is smart – but complicated

Climate and Energy Pollution

The federal government announced this week that its carbon tax will apply in early 2019 to those provinces without their own – Saskatchewan, Manitoba, Ontario and New Brunswick. It also announced that most of the carbon-tax revenues will be returned through the income-tax system to households.

With this two-part policy, the feds have designed a smart package that will both reduce greenhouse gas (GHG) emissions and maintain most families’ purchasing power. But the government will need to carefully explain how both parts of the policy actually make sense.

Convincing people that a carbon tax will actually reduce GHG emissions is surprisingly difficult. But these policies have worked well in the jurisdictions that use them, such as British Columbia, the United Kingdom and California.

A carbon tax works by raising the prices consumers pay for anything with a carbon footprint; the more carbon, the greater the price increase. Consumers then respond to price changes by altering their buying behaviour. As gasoline gets more expensive, drivers begin the movement toward smaller or electric vehicles, or perhaps public transit. As heating oil rises in price, homeowners consider insulating their basement or turning down the thermostat. As jet fuel and airline tickets become pricier, vacationers will consider fewer airplane trips or different types of holidays.

As consumers adjust their spending, businesses also respond – especially by developing the low-carbon things now in greater demand. The carbon tax acts as a great financial incentive to develop cleaner power, lower-carbon building products, food grown with a smaller carbon footprint and lower-emission vehicles. Nothing energizes the business model of the clean-tech sector like a broad-based carbon tax.

None of this adjustment happens dramatically – for consumers or businesses. Bit by bit, we all adjust to the incentives created by a carbon tax. Emissions will fall gradually, as they did in British Columbia where that province’s carbon tax reduced emissions by between 5 and 15 per cent over a decade. But eventually, and especially as the carbon tax rises, we will get the sizable emissions reductions we need over the next half-century.

This brings us to the second part of the policy, whereby the federal government returns a big chunk of the carbon-tax revenues to households. This part of the policy, though obviously popular, leads most people to raise their eyebrows in wonder: How can it make sense to collect revenue with the carbon tax and then return it through income-tax rebates? What is the point?

Carbon taxes don’t achieve their objective by making families poorer. The point isn’t to get people to consume less, but to consume differently. However, by raising the prices of carbon-intensive products, carbon taxes will make households poorer.

Unless, that is, we return a large fraction of the carbon-tax revenues to families in the form of tax rebates. Households can spend the tax rebates on anything they want, and for most of them their overall purchasing power will be left unaffected by the tax-and-rebate combination. But they will still have an incentive – through the changes in prices – to reduce their expenditure on carbon-intensive products.

When filing their 2018 income taxes, households in Saskatchewan, Manitoba, Ontario and New Brunswick can claim a rebate to be paid in early 2019, before most of the effects of the carbon tax are felt. For a family of four, the rebates will be $609 in Saskatchewan, $339 in Manitoba, $307 in Ontario, and $256 in New Brunswick.

Once the rebates are received, some households may simply ignore the carbon tax’s impact on prices and consume in their old familiar way. But they will soon realize that they can do far better than this. By reducing their use of carbon-intensive products, they can reduce their emissions, reduce the amount of carbon tax they pay, and still benefit by keeping the tax rebates. Once this idea really sinks in, the carbon tax will be working the way it is designed.

The bottom line: The federal government has thought seriously about climate change and designed a smart policy to address it. The policy combines a broad-based carbon tax with significant rebates to households.

But the tough work is now just beginning. As smart as this policy is, it needs to be explained in a way that makes sense to ordinary Canadians. Only then will it be a real success.

Christopher Ragan is chair of Canada’s Ecofiscal Commission and director of the Max Bell School of Public Policy at McGill University.

This article was originally published in the Globe and Mail on October 24, 2018.

2 comments

  1. Warren

    Clearly, a well-designed carbon tax will work in exactly the way that you have described. But it’s far from clear to me that the system we are getting will achieve the emissions reductions that a well-designed carbon tax policy would achieve. I see a few main problems:

    (1) By not taking a bold, truly national approach to a carbon tax accompanied by cuts to Federal corporate and personal income tax rates for everyone (alongside smaller personal rebates, perhaps), this policy becomes something that is easier for a future government to take away. The policy will also not have the same immediate positive impact on the bottom lines of the cleaner sectors of the national economy that revenue-neutral income tax cuts would achieve. Businesses operating in Provinces where there are no rebates receive no benefit, and even where there are rebates, the benefits to businesses depend on the somewhat uncertain decisions that consumers will make about how to spend those rebates.

    (2) The approach taken creates a lot of uncertainty for business. There are different carbon pricing approaches across provinces, with uncertainty about what some provinces will do and which schemes will be considered satisfactory enough to avoid the Federal backstop. And as mentioned above, it will be a lot easier for a future Conservative government to cancel this program than it would be for them to increase the Federal corporate and personal income tax rates that apply in all Provinces.

    (3) Most important of all, most of the largest industrial emitters will not have to pay any carbon tax under this scheme. Maybe this is too simplistic, but it seems to me that if small emitters have to pay a new tax whereas very large ones do not, the expected outcome is that the structure of the economy will shift even more in favour of the large emitters than it is already.

    I would appreciate hearing your responses to these worries. Until then, I remain extremely skeptical that this is a smart approach to carbon pricing. As far as I can tell, it is unlikely to have the same impact on emissions as the BC carbon tax did, for example, and it will only add fuel to the fire of those who are irrationally opposed to carbon taxes even when they are well designed. That is about as far from smart as it gets if you ask me.

    • Brendan Frank
      Brendan Frank

      Hi Warren,

      Thanks for the thoughtful comments. We think the federal carbon price is well-designed, and should drive meaningful emissions reductions over time. It needs to be implemented properly, but the groundwork is all there. In response to your three points:

      1) There is a strong case for leveraging federalism in developing national Canadian climate policy, and the Pan-Canadian Framework reflects this. Ideally, the federal government sets the minimum price, and the provinces set up their own systems to comply with that standard and recycle the revenues how they see fit. Income and corporate tax cuts are the most economically efficient, but provinces may prioritize other objectives.

      2) Certainty is very important. The 2020 review of the Pan-Canadian Framework should offer some long-term certainty on where carbon prices are heading. Far worse is the uncertainty brought about by promises to dismantle the Pan-Canadian Framework.

      3) A few comments on this point:
      a. Sectors that are eligible for the OBPS still pay the carbon price, they just also receive an output subsidy based on how much they produce (a tonne of cement, a tonne of steel, etc.). The result is that they pay a very low price on carbon on average, but the full price on carbon at the margin.
      c. The incentive to reduce emissions under the OPBS is just as powerful. It encourages firms to get cleaner rather than smaller.
      d. This system is not designed to be around forever, only until other jurisdictions catch up on carbon pricing.

Leave a Reply

*

Send this to friend