Abstract
We analyze whether a carbon consumption tax is logistically feasible. We consider a carbon footprint tax (CFT), which would be modeled after a credit-method value added tax. The basis for the tax would be a product’s carbon footprint, which includes all of the emissions released during production of the good and its inputs as well as any greenhouse gases latent in the product. Our analysis suggests that a pure CFT, requiring the calculation of the carbon footprint of every individual product, may be prohibitively costly. However a hybrid CFT seems economically feasible. The hybrid CFT would give firms the option to either calculate the carbon footprint of their outputs—and have their products taxed based on those footprints—or use product-class specific default carbon footprints as the tax basis, thereby saving on calculation costs. Because the CFT would be levied on all goods consumed domestically, the CFT would keep domestic firms on an even footing with those producing in countries without active climate policy, protecting competitiveness and reducing leakage.
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Notes
The CFT would differ substantially from carbon taxes currently in use world-wide. Most jurisdictions taxing carbon do so by taxing fossil fuel or electricity use, such as British Columbia, Canada, Montgomery County, Maryland, Germany, and Norway (Brewer et al. 2011, p. 12; Flannery et al. 2012, p. 38). In these systems, the emission tax is levied on purchases of fossil fuels or electricity according to the amount of carbon dioxide emitted by using said energy source. These taxes effectively tax producers according to their emissions from fossil fuel and electricity sources; the CFT would tax each product according to the full emissions embodied in its production. Detail on the design of the CFT is provided in the following sections.
McLure (2012) provides an exception, contrasting how a carbon-added tax might work if applied using a credit-, subtraction- or addition-method; he does not, however, consider emissions from sources other than fossil-fuel combustion, third-party certification, or the use of baselines.
By “product class” we mean any convenient way of grouping similar products. These product classes could be defined by the North American Industry Classification System (NAICS) or another similar industry classification system. For example, the US Census has developed a system that extends the NAICS mining and manufacturing codes to the ten digit level. One sample product class from this system is “Candles, including tapers” (NAICS-based code 3399994100). We discuss this further in Sect. 4.1.
In the remainder of this paper we will regularly refer to greenhouse gasses as \(\hbox {CO}_2\) equivalents (\(\hbox {CO}_{2}\hbox {e}\)).
The footprint could even be negative if the production process led to net carbon sequestration instead of release.
In this paper we will abstract from emissions latent in the consumer-to-grave portion of a product’s life cycle, as we will assume that such emissions are assigned to waste disposal services. Similarly, we will not assign to a product—e.g. a pair of jeans—the emissions arising from use of complementary products or services—e.g. emissions associated with laundering those jeans.
We do not adopt a position as to whether the CFT levied on a product should be included in the tax base for other taxes such as value added taxes. Embedded and latent carbon can be viewed as inputs, and so an argument can be made that value added from carbon inputs should be subject to sales or value added taxes just the same as would value added arising from employing labour and other inputs. However, including CFT in the basis for other taxes may complicate reimbursements for CFT-paid on intermediate inputs since sales taxes levied on CFT would also have to be reimbursed.
We suggest the CFT be implemented using the credit-method, but there are other options. VATs, for example, can also be implemented using either the subtraction or addition method. Under the subtraction method, tax is levied on the difference between a firm’s sales (inclusive of VAT charged on their value added) and their purchases (inclusive of VAT paid on all inputs); under the addition method, tax is charged according to the firm’s payments to production factors. For a detailed description of VAT computation methods see Zee (1995) or Bickley (2003).
A carbon tax implemented using the subtraction method would involve calculating the entire carbon footprint (+latent emissions) of a product (i.e. the carbon sold by the merchant), subtracting any upstream carbon (+latent emissions) contained in inputs (i.e. the carbon purchased by the merchant), and then levying the tax on this difference. As McLure (2012) points out, a downside of a subtraction-method approach is that downstream firms would have to calculate both the CF of their own product as well as that of their upstream inputs, as the CFs of goods far up the production chain would be unreported.
An addition method CFT could take the following form: a tax on emissions latent in any inputs purchased. A problem with this approach arises for inputs that release variable amounts of emissions when used (as with a fuel that may be either combusted or refined prior to resale) would need to be taxed at different rates depending on their use, which would raise administrative complexity.
McLure 2012 notes that both of these approaches—subtraction and addition method carbon added taxes—would also suffer from under-taxation if some upstream industries are exempt, which would incent lobbying for exemptions and provide no incentives for voluntary opt-in as would arise under a credit-method CFT.
More accurately, exports from Home would be taxed at a rate of zero.
Compare this to what would occur if Home instead pursued an origin-based emission tax \(\tilde{t}\): the retail and tax inclusive price in Home and ROW of a Home-produced unit of good U would all be the same: \(\tilde{p}_U =\tilde{P}_U =a_{UY} +\tilde{t}e_U \). In contrast, the retail and tax inclusive price in Home of a unit of U produced in ROW would be only \(\tilde{p}_{U}^{*}=\tilde{P}_{U}^{*}=a_{UY} \), rendering Home’s producers uncompetitive both at Home and abroad.
Personal communication with authors.
Under output-based allocation (OBA), firms in regulated sectors are granted some permits gratis based on their recent output. A number of computable partial and general equilibrium analyses have compared the relative effectiveness of border adjustments and OBA. Examining emission reductions scheduled for the third period of the EU ETS, Monjon and Quirion (2011) find that a BTA would reduce leakage by more than OBA because a BTA reduces European consumption of products from regulated sectors, thereby reducing demand for imports, and thus production, from the rest of the world. In contrast, an OBA effectively subsidizes domestic output, and so an OBA may be better at protecting production than is a BTA. This output protection can have perverse effects however: considering a carbon tax scenario, Fischer and Fox (2009) find that production rebates—the price equivalent to OBA—do little to the leakage rate because reductions in foreign emissions are matched by smaller reductions in domestic emissions; that is, production rebates can reduce the extent to which emissions actually fall in the regulated economy. While output protection may be politically attractive, Fischer (2001) shows that OBA can lead to an inefficient outcome whereby output contracts too little and emission intensity is driven too low relative to the social optimum. Other problems with OBA are as follows: OBA provides incentives to keep inefficient plants in operation (Grubb and Neuhoff 2006), insulates consumers from paying the marginal social cost of the goods they consume, and provides no incentive for foreign firms to reduce the emission intensity of the goods they sell in the regulated market. Böhringer et al. (2011) point out that the efficiency of OBAs decline as the size of the coalition rises. Comparing full BTAs, import tariffs, and OBAs, they conclude that “[o]utput-based rebates achieve the smallest cost savings among the three anti-leakage instruments compared to a reference climate policy that places a uniform price on carbon without additional leakage measures. Furthermore, they induce excess costs as the coalition size increases toward full coverage because the distortions of output subsidies prevail, while the anti-leakage effect becomes zero.” (p. 3).
If the regulating economy is an energy importer, the production tax would instead shift out the country’s import demand curve, also raising the equilibrium world price for fuels.
If the regulating economy eschews zero-rating exports of any kind, there would still be supply-side leakage as domestic manufacturers would be at a disadvantage in export markets. If instead only non-fuel exports are zero rated, this would reduce supply-side leakage but introduce new inefficiencies because fuel use by exporters would be effectively subsidized.
Authors’ own calculations based on figures reported in Brandt (2011).
Oil sand extraction costs range from $40/barrel for low-cost producers to upwards of $80/barrel for some newer extractors ( Financial Post 2012).
In contrast, emission taxes without BTAs would lower welfare (without considering climate benefits) in OECD and non-OECD countries by 0.25 and 0.58 % relative to the no-tax scenario. It’s worth noting that OECD welfare rises with BTAs even though the overall leakage rate is positive.
The following stylized example illustrates how defaults can unravel the incentives for upstream carbon-reductions. Suppose there are multiple competitive downstream and upstream producers and that neither good is traded. Assume upstream producers have access to two separate production methods: method “Small” (S) or method “Medium” (M), whereby \(a_{UY}^{ S}> a_{UY}^{ M}, e_{U}^{S}<e_{U}^{M}\) and \(a_{UY}^{ S} +te_{U}^{S}< a_{UY}^{ M} +te_{U}^{M}\). Assume the tax rate \(t\) is equal to marginal social damage from carbon emissions. As described, the Small method is socially preferable, since the value of non-carbon inputs summed with damages from emissions is less than with Medium. If a downstream user intends to utilize the default CF, then she has no incentive to purchase an upstream good produced using the Small method. This is because any CFT a downstream pays on her purchase of the upstream input will be rebated, while the CFT paid by her own consumers is independent of her own product’s CF. Thus, she can reduce her net costs by purchasing upstream goods produced using the Medium method. If, in addition, there are fixed costs associated with employing a particular upstream production method, then if enough downstream firms utilize the default rather than calculating/certifying their idiosyncratic CFs, each upstream firm will employ the Medium production method and emissions will be higher than they would have been if downstream users were required to calculate their own CFs.
Because of the high fixed costs associated with tax calculation and reporting, exempting small firms may also be advisable. In the UK firms are not required to charge VAT on their goods if their annual turnover is below 77,000 (HM Revenue and Customs 2012); the VAT registration threshold in Denmark is DKK 50,000 (KPMG 2012a, p. 4) and NOK 50,000 in Norway (KPMG 2012b, p. 3). Each country pursuing a CFT program may therefore wish to exempt firms for whom annual gross revenues fall short of some universal cutoff such as $100,000.
Excluding emissions from Land Use, Land Use Change and Forestry, the International Energy Agency (IEA) reports that 83 % of Annex I greenhouse gas emissions are generated by energy extraction and use (IEA 2010, p. 18); approximately 80 % of Canada’s greenhouse gas emissions arise from production and consumption of fossil fuels (Government of Canada 2012); 94 % of US \(\hbox {CO}_2\) emissions are from fuel combustion; US \(\hbox {CO}_2\) emissions account for 83.7 % of US \(\hbox {CO}_{2}\hbox {e}\) emissions (United States Environmental Protection Agency 2013).
If all products other than fossil fuels were exempt from the CFT, the CFT would be almost equivalent to a fuel tax of the sort imposed in British Columbia (BC): the BC fuel tax is levied on fuels according to their latent GHG, while the CFT would also tax fuels according to their extraction emissions.
If downstream firms are not exempt, it may nonetheless be advisable to quasi-exempt retailers: require retailers to track, display, and charge CFT on retail items using the CF as reported by the manufacturer. This would be aided if the economy employed a voluntary or mandatory labeling program. The advantage of this quasi-exemption would be that any CFs appearing on product labels would match those on the consumer’s final receipt. Moreover, retailers would presumably build into their markups the CFT-paid on non-attributable inputs (such as heating and lighting) such that consumers would still face a net price that internalizes most of the social costs of producing and distributing final goods. However, if retailers were either exempt or quasi-exempt, then, while the cradle-to-gate emissions associated with imported final goods would be taxed, the emissions associated with transporting that final good from an overseas manufacturer to the importer’s border would not be taxed either directly or indirectly.
Given that these labels would be printed at the factory, and thus not include transport emissions associated with getting the product from the factory to the retailer, these labels would only be able to report emissions from cradle-to-gate, not cradle-to-consumer.
In comparison, the leakage rate when there are no border adjustments at all is 15.61 %.
It is also worth noting that non-Annex B countries are supplying an increasing percentage of Annex B carbon consumption: in 1990 Annex B countries imported 1,100 Mt of embedded \(\hbox {CO}_2\) from non-Annex B countries (equal to 7.5 % of total carbon consumption in Annex B countries); in 2008 those imports had risen to 2,555Mt\(\hbox {CO}_2\) (or 16.5 % of total consumption in Annex B countries) (Authors’ own calculations using estimates provided in Peters et al. 2011, Supplementary Materials).
The policy experiment in Mattoo et al. (2009) is a carbon tax commensurate with a 17 % reduction in OECD emissions. In the scenarios we describe—labeled BTADU and BTADR by Mattoo et al.—border adjustments are levied only on imported goods—not exports—and are calculated using domestic emission intensities. Figures are reported in Mattoo et al. (2009) Appendix Table 5.
For comparison, Mattoo et al. (2009) calculate that the output loss in the EI sectors in the BTADU scenario is only 0.5 %.
Modeling a $40/t\(\hbox {CO}_{2}\hbox {e}\) tax applied throughout the Canadian economy, Dissou and Eyland (2011) compare how the carbon tax impacts output in non-energy intensive manufacturing sectors (labeled Other Manufactures) depending on whether EI-sectors receive a BTA. They find that, absent any BTAs, the carbon tax raises output of Other Manufactures by over 8 %, but when paired with BTAs for the EI sectors, Other Manufacturing output falls by between 11 and 17 %. It is unclear, however, how much of this output reduction can be attributed to import competition and higher costs of inputs purchased from upstream firms, as Dissou and Eyland assume BTA revenues are rebated to the most energy intensive industries, which also causes labour and capital to reallocate within the economy.
Using US data, Burnham et al. (2006) estimate that a 3300lb internal combustion engine vehicle typically embodies approximately 8t of \(\hbox {CO}_{2}\hbox {e}\). In 2007, US value added from automobile assembly was $22 billion, while the number of automobiles assembled was 3.9 million (Ohio 2011, Tables A3 and A11), suggesting gross value added in the US auto assembly was approximately $5600/vehicle. Assuming a tax rate of $30/t\(\hbox {CO}_{2}\hbox {e}\) the carbon tax burden in auto assembly would be approximately 4 % of gross value added.
E.g. Hourcade et al. (2007) predict that a 20 euro carbon tax would impose costs equal to between 10 and 30 % of gross value added in sectors such as cement, steel and iron, and petroleum refining.
Using input-output analysis, Morgenstern et al. (2007) report that a $10/t\(\hbox {CO}_2\) charge would reduce Motor Vehicle Output by 1.01 % in the short run; this is comparable to predictions of short run output losses of 0.96 % for Chemical and Plastics and twice that for Petroleum (.42 % output loss) and Paper & Printing (.48 % loss). It should be noted, however, than in the long run (with general equilibrium responses including reallocation of capital), output losses in the automotive sector are projected to be much smaller. Conducting a CGE analysis using 21 sectors including 13 manufacturing industries in the US, Ho et al. (2008; Table 6) calculate that an economy-wide $10/t\(\hbox {CO}_2\) would reduce output from the Transportation Equipment sector by only 0.27 % (as compared to a 1.14 % loss in the short run); in contrast, the long run output loss in Petroleum Refining is predicted to be 5.36 %
If low-carbon generators are given tradable zero-emission credits, then the default CF of non-credited electricity would have to be adjusted upward accordingly.
Even if third parties carry out certifications, CF calculations would still draw upon proprietary data, thereby opening the door to fraud. In order to avoid similar problems with organic certification, the International Federation of Organic Agriculture Movements (IFOAM) instituted three levels of monitoring: certification bodies perform farm inspections (sometimes unannounced) and review the farm/producer’s written documentation while retail and trade quality managers perform quality tests (IFOAM 2012). Certification bodies themselves are also subject to review by accreditation bodies, often by a national food inspection body, such as the Canadian Food Inspection Agency.
A mandatory certification or label administered by a government body is referred to in the TBT as a technical regulation; a voluntary certification or label administered by a government or non-government body is referred to as a standard.
CE is often taken as standing for Conformité Européenne.
The ISO 9000 family of standards relate to quality management systems.
These standards are the medical device sector specific versions of ISO 9001 and ISO 9002, respectively.
Type I medical devices do not require Health Canada licenses.
A Low Complexity product is loosely defined as one using few material inputs, simple manufacturing methods and a straightforward distribution system. High Complexity products require many material inputs, several manufacturing steps, a multi-mode transportation system and packaging.
These figures represent prices charged for footprinting services. There would also be costs associated with accrediting firms providing these services, for which the costs of accrediting organic certifiers may be relevant. Stolze et al. (2012) assess the supervision costs—per organic farmer or processor—to manage an organic certification scheme in each of six European countries and arrive at country-level supervision and accreditation costs of $624,978 CAD per year per country.
In the Impact Analysis performed for the 1990 Nutrition Labeling and Education Act it was estimated that the costs of performing the required nutritional analyses was $1,785 USD for products that had yet to undergo any nutritional analyses (Food and Drug Administration 1991, p. 9). This estimate assumed each product required a full lab assessment to acquire the necessary nutritional information. Currently, new products can undergo either a full lab assessment or a database nutrition analysis. Both of these methods satisfy the Food and Drug Administration’s nutritional label requirements (Food and Drug Administration 1998). To perform a database nutrition analysis, which uses data from similar or input food products to assess the nutritional information of a previously un-analyzed product, costs are between $75 USD (Sweetware 2012) and $125 USD (Nutridata 2012). A lab-based analysis was quoted at $560 USD in 2003 (Food and Drug Administration 2011, p. 26). The cost of a lab-based analysis fell by 67 % after nutritional labels became mandatory in the US. In addition, because these labels were made mandatory, a database has been assembled that can be used to calculate—very inexpensively – the nutritional information of many products. In a case where a database analysis is sufficient, the cost, compared to the 1990 lab cost, has fallen over 90 %.
Personal communication with Kathleen McManus of GS1 Canada, October 25 2012.
Alternately, the number of unique Global Product Classifications (GPCs) worldwide exceeds 11 million. (GS1 2013)
The North American Industry Classification System (NAICS) classifies national industries to the 6-digit level. The US Census Bureau has developed additional NAICS-based codes for further classification; we base our count of 10-digit industries on the count of 10-digit codes in the US Census Bureau’s 2007 “Numerical List of Manufactured and Mineral Products”, available at http://www.census.gov/prod/ec07/07numlist/m31r-nl.xls.
The 10-digit NAICS-based codes are industry codes, describing industries according to the goods produced. However, for many codes the industry code can be attributed to a fairly homogeneous product—e.g. “Candles, including tapers” (NAICS-based code 3399994100)—and so we take the liberty of referring to the 10-digit NAICS-based codes as product codes as well. However, for some industries the 10-digit code includes a variety of products which may need to be further disaggregated, eg. “Wood jewelry boxes, silverware chests, instrument cases, cigar and cigarette boxes, microscope cases, tool or utility cases, and similar boxes, cases, and chests” (NAICS-based code 3219207151) or classified based on weight and/or volume.
See Narayanan and Walmsley (2008) or https://www.gtap.agecon.purdue.edu/.
See Tukker et al. (2009) or http://www.exiobase.eu/.
See Lenzen et al. (2010) or http://www.worldmrio.com/.
Their standardized case study firm has 60 employees and “turnover of 1,050 times income per capita” (Price Waterhouse Coopers 2011, p. 98).
Japan uses a subtraction-method VAT and is the only country referenced in this section that doesn’t use the credit-method.
Doing Business database http://www.doingbusiness.org/data. Figures for Canada are for Ontario and the Harmonized Sales Tax.
Countries like the United States which do not have a federal sales or value added tax would not have this advantage.
Jorgenson and Wilcoxen (1993) find that a tax equivalent to $30 in current Canadian (CAD) dollars would achieve a 14.4 % reduction in US \(\hbox {CO}_2\) emissions over a 25 year time horizon; Böhringer and Rutherford (1997) find that a carbon tax equivalent to $24.8 in current CAD would achieve a 10 % reduction in German emissions, while Metcalf (2009) finds that a tax equivalent to $20.35 in current CAD would achieve a 14 % reduction in US \(\hbox {CO}_{2}\hbox {e}\) emissions.
To put these revenues into perspective, note that in the 2008–2009 fiscal year Canada’s federal value added tax (called the GST) raised $9.5B, while federal personal income taxes raised $116B (Government of Canada 2009).
Political viability would also be improved by appropriate framing. Economists recognize Pigouvian taxes as price instruments designed to force consumers/producers to internalize the environmental costs of their actions. However, to the general population, tax indicates a revenue generating mechanism designed to transfer wealth from citizens to government. Describing a carbon footprint price as a fee or charge may convey the correct signal that the policy is designed to charge consumers for use of a public good.
Some voters will be wary of government introducing a new tax with the promise that rates of some other taxes will be reduced. Such voters may suspect that future administrations will erode cuts in personal income taxes through incremental increases in future years. One solution to this commitment problem might be to have CFT revenues managed by a third-party which then issues lump-sum rebates to residents. This approach would also convert the CFT program from being regressive to progressive.
In the case of carbon taxes, an additional interaction is possible: to the extent that introducing a carbon pricing policy induces innovation that reduces the CF of goods in the future, consumers may delay the purchase of some durables so as to reduce the lifetime tax bill.
E.g. the 1996 Japan-Alcoholic Beverages case (WTO Dispute Numbers 8, 10 and 11) centered on Japan’s practice of taxing Shochu at a lower rate than Vodka. The dispute in the 1999 Chile-Alcoholic Beverages case (WTO Dispute Numbers 87 and 110) concerned Chile’s practice of levying an ad valorem tax of 27 % on beverages with alcoholic content of 35 % or lower, but taxing beverages with alcoholic content over 39 % at a 47 % ad valorem rate.
For example, in the 1992 US-Malt Beverages case (GATT Case No. 23), the Panel found Minnesota’s practice of offering tax breaks to small breweries (including foreign breweries) violated GATT III:2.
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Appendix
Appendix
1.1 Carbon Footprint Tax Accounting
In Sect. 2 we describe a highly stylized example of a two-industry economy producing generic upstream (U) and downstream (D) goods.
In this Appendix we provide a more concrete example to illustrate how a CFT would be implemented in an economy in which multiple inputs are employed and some inputs are exempt. We build our example on the agricultural industry. Specifically, we consider a stylized example of the production of an apple. As in Sect. 2, we use \(t\) to denote the CFT rate per tonne of \(\hbox {CO}_{2}\hbox {e}\). For simplicity, we limit the set of potential intermediate inputs to electricity \((E)\), metal \((M)\), seeds \((S)\), fertilizer \((F)\), tractors \((T)\), dirt (D), and fossil fuels \((P)\). We consider the production of tractors and apples individually. Tractors are produced from electricity, metal, and fossil fuels; apples are produced from seeds, fertilizer, tractors, dirt, and fossil fuels. Denote the unit requirements of input \(j\) used in the production of output \(i\) as \(a_{ij}\); these input requirements are given in row 2 of Table 1. The total emissions released during the production of one unit of input \(j\) are denoted by \(e_{j}\). For example, the amount of electricity used in the production of a tractor is given by \(a_{TE}\), and so the corresponding emissions attributed to electricity used in tractor production is \(e_{E}a_{TE}\). Let \(L_{j}\) denote \(\hbox {CO}_{2}\hbox {e}\) latent in a unit of input \(j\). We assume latent emissions are zero for all inputs other than fossil fuels, such that \(L_{P}>0=L_{E}=L_{S}\) etc. Letting \(e_{P }\)denote the emissions released during extraction and refining process, the carbon footprint of a unit of fossil fuels is thus \(e_{P}+L_{P}\). We assume that tractor and apple production releases all of the carbon latent in fossil fuels employed. Finally, let \(e_{i}^{j}\) denote the emissions released directly during the production of good \(i\) arising from the use of input \(j\). To clarify, \(e_{j}\) represents the emissions released from the production of a unit of input \(j\) and \(e_{i}^{j}\) represents the emissions released when a unit of input \(j\) is used in the production of good \(i\). For example, we assume the use of fossil fuels in apple production releases all of the carbon latent in those fuels, such that \(e_{A}^{P} = L_{P}\).
We decompose a good’s emissions into two categories: direct emissions released during production and emissions embodied in inputs. Following the LCA convention, direct emissions correspond to Scope 1 emissions and embodied emissions capture both Scope 2 and 3 emissions. In our example, direct emissions include those from burning fossil fuels and from land use change (the dirt input for apple production) only.
Table 1 presents a breakdown of the CFT process for an apple. CFT paid by the farmer when purchasing inputs is given in row 4. Row 6 lists the credit the farmer receives for CFT-paid. The consumer of the apple pays CFT on the apple’s entire footprint (row 5) to the farmer. The farmer remits to the tax authority the difference between the total product CFT and the CFT paid on inputs, which corresponds to the CFT added by the farmer (row 7).
1.2 CFT Accounting When an Input is Exempt
We now examine how CFT accounting would work if an intermediate input—tractors—were exempt. We continue to assume fossil fuels, electricity, metal, seeds, and apple production are all non-exempt. One of the purposes of this example is to show how exempting an intermediate input may lead to double taxation if the exempted sector does not “opt-in” to the CFT system. For this, we first provide a breakdown of tractor production, which uses non-exempt inputs of electricity, metal, fossil fuels. As before, we assume that tractor production releases all carbon latent in its fossil fuel inputs.
Table 2 provides the breakdown for tractors. We follow the notational conventions outlined in the preceding section. The tractor producer must pay CFT on all inputs (row 4), but no CFT is levied on tractor purchases.
Our next table (Table 3) shows the amount of CFT (embodied and direct) that would be attached to apples if tractors were exempt but apples were not. A common result in the literature on VATs is that exempting an intermediate industry leads to double taxation if that industry’s output is used as an input by a non-exempt industry. Table 3 confirms that a similar outcome occurs in the case of a CFT. CFT is levied on the total carbon footprint of an apple at the point of sale (row 7). The apple farmer can claim CFT credits on purchases of all non-exempted inputs (row 8). CFT is not levied directly on tractors, so no CFT credit is available to the farmer for the tax embodied in tractors. The result is that the emissions embodied in tractor production are double taxed (row 9).
1.3 CFT Accounting When a Downstream Industry is Exempt
The final variant we consider has both the apple and tractor industries exempt from the CFT. The CFT accounting associated with tractors is as given in Table 2, while that for apples is given by Table 4. Table 4 shows that exemption of the intermediate input (tractors) and final product (apples) results in land use change emissions from apple production being untaxed (row 9).
Moreover, as noted in Sect. 2, when a downstream firm is exempt from the CFT, the CFT levied on its inputs is not reimbursable. The result is that domestic producers of an exempt good would face higher production costs than producers of a substitute good in a policy-inactive country. In this example, assuming the same before-tax production costs and a competitive apple industry, an apple produced in a policy-inactive country would cost \(t[e_{F} a_{AF} + e_{S} a_{AS} + e_{T} a_{AT} + [e_{P} + L_{P}] a_{AP}]\) less than a domestically produced apple, regardless of whether it was purchased domestically or abroad.
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McAusland, C., Najjar, N. Carbon Footprint Taxes. Environ Resource Econ 61, 37–70 (2015). https://doi.org/10.1007/s10640-013-9749-5
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DOI: https://doi.org/10.1007/s10640-013-9749-5