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To reduce the dangerously high levels of greenhouse gas emissions that are currently plaguing our global environment, economists around the world have debated whether a carbon tax or a cap-and-trade scheme option is the better solution. While there are advantages to both of these principles, economists generally agree that without an appropriate polluter-pays principle in place, companies will not be incentivized to reduce their emission rates.
What is a Carbon Tax?
A carbon tax is defined as a type of fee that is imposed on fossil fuels to reduce the harmful emission of carbon dioxide. Furthermore, a carbon tax is typically derived from an evaluation of how much pollution is currently generated by a given system, how much damage this pollution quantity can generate and the estimated cost that controlling this pollution will amount to.
While a carbon tax may appear to be a straight forward procedure, it can be difficult to determine what carbon tax level will truly encourage companies to restructure their energy usage. For example, a lower carbon tax will most likely provide companies the leeway to decide to pay the tax and continue to pollute rather than take the necessary steps to change their energy source, as the tax may end up being the more financially sound option. Similarly, an extremely high carbon tax could negatively affect the economy by reducing company profits, which could lead to higher unemployment rates and negative effects for end consumers.
What is a Cap-and-Trade System?
As compared to a carbon tax, a cap-and-trade system is designed to reduce pollution by setting a maximum level of pollution, otherwise referred to as the ‘cap,’ that can be emitted by a given industry or economy. This cap amount is then divided equally among each company to set a maximum amount of emissions, otherwise referred to as their ‘allowance,’ that can be released by each individual company. Any company that has emission rates that are below their allotted amount can then sell the remainder of their allowance to other companies that have polluted more. This method of pollution reduction provides companies with the flexibility to reduce their emission rates at their own speed, while also being rewarded for achieving a greater reduction in their pollution levels than what was provided in their original allowance.
Should Companies be Taxed?
When considering ways in which large companies can be urged to reduce their role in perpetuating the release of harmful greenhouse gases (GHG), a carbon tax is associated with several advantages, some of which include:
- Motivation for large companies to switch to clean energy
- Increase the price of carbon-based fossil fuels
- Encourage companies to investigate cost-effective ways to reduce carbon emissions
- Improved economic growth
Despite these clear advantages, many conservative leaders believe that a carbon tax is a regressive tool that will not only make fossil fuels more expensive but will impose an unnecessary financial burden to lower-income families already struggling to pay for their gasoline and electricity needs. Furthermore, it has been estimated that company profits worldwide could suffer losses of up to $1.5 trillion USD by taxes that have been included in the Paris climate agreement.
Although political resistance has largely prevented several nations from welcoming a carbon tax, there is clear evidence that supports the fact that a carbon tax on companies can reduce GHG emissions at a rapid rate. The transportation industry, for example, would be particularly affected by a carbon tax, as there remains a limited number of fuel alternatives that have been successfully integrate into vehicles currently being sold on the market. As a result, if a carbon tax is placed, consumers would be forced to decide whether to reduce their driving rates or simple remain resistant to price pressure, in which the latter has appeared to be the trend in these specific types of situations.
Overall, some type of legislative action must be done by each country around the world to reduce their role in propagating climate change. A carbon tax is one of many different and promising solutions that have been proposed to motivate companies to reduce their pollution rates. While this option may not be perfect and will most likely require adjustments for each industry, it is imperative that government leaders take the pressing issue of climate change seriously for the greater good of the public.
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