Taxing Consumption to Mitigate Carbon Leakage

Abstract

Unilateral actions to reduce CO2 emissions could lead to carbon leakage such as relocation of emissionintensive and trade-exposed industries (EITE). To mitigate such leakage, countries often supplement an emissions trading system (ETS) with free allocation of allowances to exposed industries, e.g. in the form of output-based allocation (OBA). This paper examines the welfare effects of supplementing OBA with a consumption tax on EITE goods. In particular, we investigate the case when only a subset of countries involved in a joint ETS introduces such a tax. The analytical results suggest that the consumption tax would have unambiguously global welfare improving effects, and under certain conditions have welfare improving effects for the tax introducing country as well. Numerical simulations in the context of the EU ETS support the analytical findings, including that the consumption tax is welfare improving for the single country that implements the tax.

Optimal Climate Policy in the Presence of Another Country's Climate Policy

“…Particularly, Böhringer et al (2017) shows that it is welfare improving for a country, which has already implemented a carbon tax along with output-based rebating (OBR) to EITE goods, to introduce a consumption tax on top of the same EITE goods. Kaushal and Rosendahl (2020) shows that it is welfare improving under specific circumstances for a single region to introduce a consumption tax on EITE goods, when the OBA is already implemented jointly in two regulating regions for the same EITE goods. Moreover, both Böhringer et al (2017), and Kaushal and Rosendahl (2020) finds that the consumption tax has an unambiguously global welfare improving effect.…”

“…Kaushal and Rosendahl (2020) shows that it is welfare improving under specific circumstances for a single region to introduce a consumption tax on EITE goods, when the OBA is already implemented jointly in two regulating regions for the same EITE goods. Moreover, both Böhringer et al (2017), and Kaushal and Rosendahl (2020) finds that the consumption tax has an unambiguously global welfare improving effect. A consumption tax may not face the same WTO rule challenges as a BCA 1 In phase 3 (2013)(2014)(2015)(2016)(2017)(2018)(2019)(2020) the commission estimates that 43% of the total allowances will be handed out to industrial installations exposed to a significant risk of carbon leakage (EU, 2017) 2 One reviewer suggested that another fundamental obstacle is the absences of data about the embodied carbon of manufacturing process in foreign countries.…”

“…Neither Böhringer et al (2017) or Kaushal and Rosendahl (2020) examines how anti-leakage measure in other locations may affect the level of OBA and/or consumption tax at home, or whether OBA and/or consumption tax can be used strategically in the presence of other regulating regions. Such a strategy becomes particularly policy-relevant since there are several countries pursing their local ETSs, with different emission reduction targets.…”

“…This poses a policy problem that is different from e.g., the one EU faced when it initiated its ETS in 2005. In this paper, we build on the analysis in Böhringer et al (2017) and Kaushal and Rosendahl (2020), and investigate the optimal choice of OBA and/or consumption tax in the presence of another region's OBA and/or consumption tax. Mainly, we are interested in the non-cooperative game of policy instruments between the EU ETS and the Chinese ETS, as both markets will have a variant of OBA for the EITE goods in their upcoming phases.…”

Unilateral Phase-Out of Coal to Power in an Emissions Trading Scheme

“…Leakage is well known in the context of carbon regulation (see e.g. Daubanes et al 2017, Garella and Trentinaglia 2019and Klaushal and Rosendahl 2020. Waterbed effects have recently received attention in studying the EU ETS (Perino 2018, Eichner andPethig (2019a) and Pahle et al 2019, Hamaguchi 2020.…”