A Distributional Analysis of a Carbon Tax and Dividend in the United States

by: Anders Fremstad, Mark Paul

May 03, 2017 |
Working Paper

Most economists view a carbon tax as an efficient way to reduce greenhouse gas emissions. Nevertheless, this policy approach does not enjoy widespread public support. One factor could be the distributional impacts of a carbon tax.  Under some types of tax design, the carbon tax will be regressive—i.e. the tax will entail higher proportional costs for lower-income households. Anders Fremstad and Mark Paul examine the distributional impacts at the household level of placing an economy-wide tax on carbon dioxide. They compare this with revenue-neutral recycling policies, including a labor tax cut and an Old-Age, Survivor, and Disability Insurance payroll tax cut. They find that a tax-and-dividend policy is the most equitable option, and also the most politically feasible.

Abstract

Although the vast majority of economists view a carbon tax as an efficient mechanism to reduce greenhouse gas emissions, the policy does not enjoy widespread public support. One reason for this is that economists have failed to adequately address the policy’s effect on household budgets. This paper models the distributional impacts of placing a $49 tax per ton on carbon in the United States. We combine carbon emissions data from the Energy Information Agency with the Input-Output tables from the Bureau of Economic Analysis to calculate the carbon intensity of each industry and commodity. We then analyze data from the Consumer Expenditure Survey to estimate how households would be affected by placing a price on carbon. A carbon tax would disproportionately burden low-income households, and using the carbon tax revenue to reduce taxes on labor leaves 59 percent of people worse off, including 75 percent of those in the bottom half of the income distribution. On the other hand, equal per capita dividends protect the purchasing power of 61 percent of all individuals, including 89 percent of those in the bottom half of the distribution. Many economists have dismissed a tax-and-dividend scheme on efficiency grounds, but we show that potential macroeconomic effects of tax cuts do little to protect the purchasing power of the poor. In an age of increasing inequality, we argue that providing all Americans with equal rebates is the most fair and politically-feasible policy.

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