Can Carbon Taxes be Good for China and the United States?

According to Liu, whose research focuses on climate change policy and the development process in China, the typical argument that carbon taxes will hurt the economy goes something like this: controlling carbon will raise the price of energy. Increases in energy prices will hurt the energy sector, costing the country jobs and raising prices throughout the economy. Energy price hikes will hurt businesses and consumers alike. In China, some deem that the economic cost will in fact be higher than the cost in the United States, since China relies more on heavy industry and has a much more carbon-intensive energy mix. Indeed, for decades, the academic literature has supported the popular consensus that carbon taxes will be bad for economic welfare, even when the revenue from these taxes is recycled back into the economy through concomitant tax cuts in other areas.

But in his paper, Liu presents initial evidence of his key finding that carbon taxes, provided that the revenue is recycled to cut taxes in other areas, can be good for economic welfare and boost economic growth. The basic reason for this potentially provocative result is that carbon taxes are more efficient than other forms of taxation and can offset inefficiencies in the existing tax structure. Three economic factors underpin Liu’s conclusion. First, carbon taxes are harder to evade than other taxes, and shifting the tax base towards carbon taxes can reduce tax evasion. Second, carbon taxes fall on sources of energy and distort market behavior less than other taxes. Third, carbon taxes can play a role in minimizing the informal sector.

Finally, Liu argues that since China’s system is currently less efficient than that of the United States, China has potentially the most to gain from a shift toward carbon taxes.