The debate on whether carbon credit exchange tax should be implemented is a hot one. It is a question of policy choice, as governments seek to develop the most effective means for mitigating climate change. carbon.credit exchange programs exist around the world in various forms, and are aimed at encouraging companies to cut their emissions, while also providing market incentives for them to do so faster than otherwise might be the case. For example, the European Union’s ‘cap-and-trade’ Emissions Trading Scheme has been in place for many years and covers about half of Europe’s greenhouse gas emissions.
In the US, California enacted its own cap-and-trade system in 2013. Meanwhile, eleven states and the District of Columbia are participating in a regional greenhouse gas initiative that covers 18 percent of the U.S. population’s emissions. These programs reduce the cost of reducing emissions by increasing market incentives and by requiring companies to pay for the emission reductions they achieve, as well as to make up for those that cannot be achieved through other mechanisms.
Moreover, cap-and-trade programs can help countries meet their greenhouse gas emissions targets in the short term by lessening the impact of regulatory action on business operations. This is because cap-and-trade systems set a maximum limit to how much companies can emit, and then allow them to sell excess credits. The government receives money from these sales, generating revenue that can be used in other ways.
Some policymakers have criticized cap-and-trade systems as insufficiently addressing the issue of climate change, but others argue that they do. They point out that these systems can actually reduce ‘carbon leakage’ — the flow of greenhouse gas emissions from countries with tighter standards to countries with looser ones, and are an important step towards reducing climate change.
The ‘carbon border adjustment’ tax, or ‘carbon tax’, is another possible mechanism that would be used to address ‘carbon leakage’ by levying a carbon border adjustment on imports of goods from countries whose carbon-intensive industries are not subject to domestic carbon pricing. However, while a carbon tax can be imposed on imported goods at the border, it is very difficult to credibly implement a border tax without a domestic carbon price.
A carbon tax directly sets a price on carbon by defining a tax rate on greenhouse gas emissions or – more commonly – on the carbon content of fossil fuels. It can have practical advantages over ETSs because it is easier to administer and has price certainty for investment, as well as broader coverage of emissions sources.
It can also help support efforts to encourage investment and reduce competitiveness concerns. It may also be helpful in implementing a global agreement to limit emissions of greenhouse gases, such as the Paris Climate Agreement.
Carbon taxes and ETSs should be considered together, in which case the choice of instrument depends on technical and political economy considerations. This includes decisions about price levels, administration, relation to other mitigation instruments, supporting measures for efficiency and distributional objectives, and extension to broader emissions sources.