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Equity and the Environment

Environmental Economics Seminar Series
Department of the Environment, Sport and Territories, 1996
ISBN 0 642 24878 8

Constraining resource use fairly: a welfare
sector perspective on the carbon tax proposal

Don Siemon
Brotherhood of St Laurence

Background

Having worked for environment organisations as well as consumer and welfare organisations over the past ten or fifteen years, I am very aware that debates on issues of equity and environment have a way of coming around regularly. Perhaps I should explain the interest of the Brotherhood of St Laurence in these debates.

For those unfamiliar with the Brotherhood, it is a Melbourne-based welfare organisation which operates about 100 programs round Victoria. The common focus of its services is on the needs of low-income people.

Our service experience and our research convinces us:

The Brotherhood's focus on material poverty has over the past fifty years led the organisation into research and advocacy on a whole range of things which affect living standards - not just social security, but employment, housing, education and health. It has also forced us to take economic considerations very seriously: hence our interest in taxation, infrastructure investment and more recently in the pricing and delivery of essential services.

One such example was being forced to assess our position on the idea of a carbon tax earlier this year. This paper explains the sort of thinking we undertook in this particular case to illustrate the responses which the welfare sector more generally might make to efforts to curb consumption in order to meet some longer-term environmental objective.

Where do equity and environment objectives conflict?

Today's seminar has shown how considerations of intergenerational equity provide a basis for policies to limit environmental degradation associated with present day consumption. In this sense, equity and environment can be seen to go hand in hand.

However, circumstances are not always so happy. Quite regularly, there are concerns expressed that measures which are recommended on environmental grounds will have an unfair impact on lower-income or particularly disadvantaged groups. For example, measures to protect wildlife may have to be balanced against the needs for survival (or at least cultural survival) for local populations.

There are four major arenas where the pursuit of equity and the pursuit of environmental enhancement are potentially in conflict:

My presentation focuses on the first of these -constraining resource use fairly. But the four arenas of conflict obviously overlap, and similar issues arise in each of them.

Three introductory points to remember

Before moving into the substance of my presentation, however, I would like to make three simple points about the nature of the environment-equity debate.

First, what are often seen as 'environmental' problems are often equally problems of social organisation.

For example, the debate over public transport versus freeways, which has resurfaced in Melbourne, is the sort of debate which could well be carried on in quite different terms. Indeed, I understand that it has been carried on in quite different terms by citizen's movements of other complexions in other countries. Closer to home, the Brotherhood's family services in Craigieburn, an outer suburb of Melbourne, have argued strongly for extended public transport largely in terms of social need.

Similarly many local issues of amenity - over urban parklands, for example - have relatively minor ecological substance, yet are framed within an environmental language and utilise environment movement politics.

And finally, when we talk about exposure to harmful environments or behaviours, we of course find ourselves talking class or gender. Toxic chemicals are at least as much an industrial issue as they are an environmental one.

I am not making this point in order to discredit these concerns; rather, I just wish to stress the inevitable overlap.

Second, the sheer size and pressing nature of environmental problems mean that there is a considerable public support for their resolution.

There is even a widespread preparedness to make sacrifices to that end which is demonstrated not just in voter or purchaser preferences but increasingly in organised opinion. Across the broad community sector, there is some degree of commonality of purpose, shown occasionally in joint statements from peak bodies in welfare, environment, labour and women's movements. An individual example close to home is that of a former head of the Brotherhood of St Laurence who, after retirement, became the first Commissioner for the Environment in Victoria.

Given this respect for the authenticity of different movements across the sector, policy paralysis can be avoided. In the case of the proposed carbon tax, for example, ACOSS and the environment organisations were able to come to a sensible understanding quite quickly.

These first two points have an obvious corollary, and this is my third key introductory point. Because issues overlap, and because environmental arguments are good currency, green rhetoric can be used to advance other agendas.

The population debate in this country has been plagued with difficulties because of this fact. And there are plenty of other examples. In Melbourne, for example, a conservationist gloss has been added to unnecessarily regressive pricing changes. We often need to disentangle legitimate equity and environmental concerns from the economic agendas being pursued by decision-makers.

Having sought to do this in our examination of the pricing of water and the pricing of electricity, one of our conclusions is that issues of resource pricing and issues of taxation are far more closely related than is often acknowledged, and this is a key theme in our approach to carbon taxation, an archetypical example of an effort to constrain resource use for environmental purposes.

Constraining resource use

A concern for the long-term often leads environmentalists to advocate constraints on the use of resources or the exploitation of natural environments. Some form of tougher rationing is required than currently exists.

It is important to note that not all environmental advocates will agree that such constraints are actually needed:

These alternative strands of thinking provide an important caveat on efforts to constrain resource use. Nevertheless it is plausible that, at least in some areas, such views will be adopted by vested interests as an excuse for inaction, and that compulsion to constrain use will be needed and pursued by environmental decision-makers.

Among the resources commonly seen as requiring conservation, fossil fuels are among the most popular. Given that they are already supplied on a 'user pays' basis, it is natural that those advocating conservation often turn to price hikes as a tool.

The recent proposal to impose a carbon tax in Australia is the latest in a line of such suggestions - and indeed actions - by governments in Australia.

The carbon tax proposal

The carbon tax proposal surfaced in late 1994 from the Australian Conservation Foundation (ACF 1994) and other green groups and, in a milder form, from the Department of the Environment, Sport and Territories (DEST)

DEST's proposal was at a lower rate, excluded liquid fuels, and would have raised some $320m. ACF had put forward a higher level, including liquid fuels, to raise $850m.

The Brotherhood's approach, in assessing this proposal, was to first begin by examining the rationale for a carbon tax; we then looked at issues for low-income households in particular.

The reasons for a carbon tax

There are three strands of thinking behind the notion of a carbon tax, with the stress being placed differently by different advocates. The strands are:

Carbon dioxide emissions - like other forms of environmental degradation - are not free, but generate some costs to society or the world. These 'externalities' should be incorporated within the price so that the polluter pays the full costs.

A tax would increase the price of fuels and therefore modify the behaviour of consumers, reducing the activities which give rise to the emissions and reducing future emissions. The revenue raised through a carbon tax could fund programs to reduce emissions.

Each of these three propositions needs some elaboration to assess its importance.

Incorporating externalities

A monetary value can be assigned to pollution, in principle at least, in at three ways. We could try to estimate:

The external costs of CO2 emissions arise as a result of global warming. Evaluating the cost associated with such large changes poses a far more difficult problem than estimation of localised environmental losses. The changes are, at least in the short and medium term, slow and gradual and difficult to discern from existing fluctuations in climate. And assigning a cost to 'setting it right', even if we could agree how far the world has shifted from its 'no-pollution' state, would also be a heroic task.

Global warming may produce winners and losers (for example, in terms of agricultural production) and it is conceivable at least in principle that warming might produce, on a global scale, a net gain, suggesting that pollution may, at least in market value terms, have been a benefit rather than a cost.

It is simpler to estimate the avoided cost of the pollution. For energy producers this would presumably be the additional cost of substituting the next cheapest but lower-emission fuel, rather than the cost of reversing the oxidation of hydrocarbons. For integrated monopoly suppliers, it might be the cost of demand management to reduce emissions. This polluter benefit, however, does not bear any necessary relationship to the external cost imposed on others by the pollution.

In summary, then, the external costs of CO2 emissions are likely to be quite difficult to quantify (Anderson 1991).

There is a general belief that such external costs exist, but how large they are is a matter of belief and speculation.

In passing, it should be noted that a carbon tax is not quite the same as a greenhouse gas tax. Methane is a greenhouse gas in its own right; natural gas could be taxed differently under the two regimes (as could the dairy and pastoral industries, perhaps).

It is also worth noting that fuel use which results in CO2 emissions often has environmental costs other than global warming (acid rain, for example) which might equally logically be viewed as externalities which should be added into the price of fuel. In some parts of the USA, these externalities are built into investment comparisons through adding a 'nominal allowance' of 10 to 15 per cent to the marginal costs of supply (DITR 1990).

These other environmental costs should be far easier to quantify than those associated with global warming, and there is no reason why the sums involved should be trivial by comparison. Taxing Victorian electricity production to recover a 'nominal allowance' of 10 per cent of production costs, for example, would result in revenue of the order of $100m. Yet to date there has been little enthusiasm for a tax surcharge aiming to incorporate these other externalities (although local political demands have led to utilities being forced to internalise some costs: revegetation schemes are an example).

Pricing to force changes in consumer behaviour

Even if externalities are immeasurable, it is possible to argue that the effects of such large -scale emissions of CO2 are undesirable and avoidable, and that a carbon tax should be adopted purely to force changes in consumer behaviour.

This approach has a long standing in energy policy quite independent of the issue of global warming. It is not, however, usually accepted as a government objective. State governments in particular have been keen to keep energy prices low in order to attract industry. Indeed, with the exception of petroleum, fuel prices have been gradually declining in real terms for the past 30 years. Even petrol - despite the power of OPEC, the decline of local reserves, world parity pricing and windfall taxation - has only risen 15 to 20 per cent in real terms.

It has been argued that non-renewable resources, particularly fossil fuels, are underpriced because insufficient weight is given to their long-term scarcity. Oil, for example, has in some places been extremely cheap to produce, but it is expected that production costs may rise very sharply as time goes on, and it is argued that current prices do not adequately reflect the steepness of this future increase (a case of 'futures-market failure'?). Future generations will have less ability to meet their needs as a result of current profligacy. This argument is sometimes put more formally by regarding such natural resources not as an income stream but as an asset, so that their use represents a form of dissaving.

These long-standing arguments are not a justification for a carbon tax, since price increases would logically be linked to relative levels of scarcity of fuel types, rather than to CO2 emissions. However, the crude practical conclusion is quite similar: fuels prices are too low and they should be taxed selectively to force a reduction in use.

A variant has been to argue that cheap resources have driven unemployment, and that taxing energy to subsidise labour is an appropriate response. In keeping with this tradition ACF (1994) and Quiggin (1995) propose that when a carbon tax is levied, payroll taxes should be wound back.

If the intent of a carbon tax is to restrict consumption, however, the price rise would have to be significant to have any substantial short-term effect. A figure of 30 per cent has often been cited as required to curtail growth in CO2 emissions sufficiently to meet Australian greenhouse gas emission targets. One global study cited by Common (1991) examined the effect of a tax which was so high as to raise gas prices by over 50 per cent and to double those of coal. This was sufficient to stabilise total CO2 emissions for fifty years, but beyond that they once again rose.

In some circumstances, quite large short-term price fluctuations (for example petrol price rises of up to 30 per cent during the Gulf War) do not induce marked behavioural change.

In short, the use of pricing measures alone to curtail the growth in use due to higher per capita demand, or to actually reduce use to earlier levels (as proposed in Australia's greenhouse strategy), would appear to require very substantial levels of taxation. Such an approach would be more aggressive than the 'no regrets' approach which has to date dominated Australian responses to the prospect of global warming.

However, it might be that a modest price rise could, in some circumstances, catalyse or accelerate the introduction of new technologies over the medium term. The context could be a more significant determinant than the price alone, however.

The history of petrol use may be illustrative. Petrol demand has been relatively slow-growing in Australia, despite population growth and an increase in the number of vehicles. Improved vehicle efficiency, catalysed by the early 1970s oil price hikes, has offset underlying demand growth factors. Yet prices, while variable, have only risen slightly over the thirty years and have actually been allowed to fall over the last decade.

This lesson has been incorporated into the position of many advocates of energy efficiency strategies (for example, Amory Lovins). Financial incentives already exist under current prices to reduce energy waste; what is needed is management attention.

Revenue for alternatives

The third rationale for a carbon tax is that it would be a source of revenue for other measures which would mitigate against greenhouse gas emissions (subsidising the development or penetration of new technologies, both for meeting energy needs and for fuel substitution).

This was the real position taken by the Greens and ACF: pricing by itself is too blunt a tool, but we need a secure financial base to actually achieve energy efficiency.

Australia has a history of raising funds for these purposes through energy levies. For example, a coal industry levy raised money which was pooled with other funds for energy research and development through the National Energy Research Development and Demonstration Council before the two sources of money were separated once more. On a smaller scale, funding for some of Energy Victoria's energy efficiency information and promotion activities came from the SEC and Gas and Fuel until 1993. While the amounts of money are very small by comparison with the amounts proposed to be raised via a carbon tax, the past low priority assigned to greenhouse abatement in the allocation of these existing funds does not provide much evidence that governments have an enormous backlog of creative projects requiring funding.

Action on greenhouse abatement could be funded by any form of taxation. However, hypothecation has its advantages: linking the two could make them more politically acceptable and, at least in principle, could be crucial elements in a mutually reinforcing package of pricing, subsidies, regulation and attitude modification in order to achieve greenhouse gas objectives.

At the start of 1995, however, there was little evidence of the will for such a comprehensive package. Indeed, some critics have shown that government efforts in the area have gone backwards from the enthusiasm which was so obvious in the late 1980s.

Issues for low-income people

Having examined the thinking behind the carbon tax proposals, the Brotherhood's second major focus in assessing the idea was to examine its implications for low-income Australians. There appear to be four major issues raised by the carbon tax proposal which are relevant to lower-income groups in particular:

Regressivity

A carbon tax applying in Australia alone would appear to be quite regressive, although Common (1990) suggests that it would be less so than might be expected.

About one-third of the tax burden would flow directly to households via higher electricity, gas and petrol charges. Given that low-income households have only a slightly lower use of domestic fuels and petrol, the direct cost to low-income households of an $850 million tax, as proposed by ACF (1994), would probably be of the order of $70 million. That of the DEST proposal would be $25 million.

Given that there are some 2.5 million low-income households, this would translate into a cost per household of less than $1.00 per fortnight ($10 to $28 pa).

The majority of the tax would be not be paid by households, but by businesses in the form of higher input costs. For some large exporters, it is probably correct to say that they would be unable to recover the costs from overseas contracts; the costs would be passed on to domestic purchasers or absorbed in lower profits. Conversely, some of the most energy-intensive industries (for example, aluminium smelters) have long-term contracts for their power which might effectively isolate them from higher prices, at least in the short-term.

Purchases of electricity and gas are in general small items of business expenditure, even for heavy industry, although some particular business categories are outstanding exceptions. Transport costs are substantial even for the services sector, although the fuel component of transport costs is more modest (and in the case of the DEST proposal, liquid fuels would not be taxed). At first glance, then, the way that a carbon tax would flow through the economy is not easy to characterise. The net effect of a carbon tax on business might be much like an extension of the current indirect tax mix (that is, quite patchy and variable) rather than like that of a uniform consumption tax.

Nevertheless, it would appear likely low-income households could pay a significant additional amount indirectly through higher prices - say $50 million to $150 million, in the case of the ACF proposal; $20 million to $60 million in the case of the DEST proposal.

Inflation-indexing of pensions and allowances would give some protection to social security recipients - perhaps enough to cover the indirect cost burdens - but additional compensation probably would be required to fully protect their living standards. Indirect compensation (incentives to upgrade housing) would not be adequate compensation though they could have a place.

The balance of the tax system

Carbon taxes would be a new element in the indirect tax base. Some commentators saw the tax as a substitute for a GST in 'broadening the tax base'; as discussed above, it is not yet clear that its impacts will be very close to this.

Would a carbon tax be a valuable addition to the tax system?

It is not clear that Australia has a major imbalance between indirect and direct taxation. Whether in historic or comparative terms, the share of revenue Australia raises from indirect taxes is not unusually small. Many state revenue sources are effectively consumption taxes, and even at the Federal level the indirect tax share has been fairly stable, with one important exception: the long-term decline of revenue from customs duties.

However, the base upon which Federal indirect taxes are levied has not kept up with the growth or change in economic output. The winding back of tariffs has drastically cut back revenue from customs duties, as mentioned. Wholesales sales tax covers a limited range of manufactured goods whereas services are a faster growing share of the economy. Sales of major elements of the excise base (tobacco, alcohol) have stagnated. And windfall taxation receipts from oil have dried up (although this has been partly offset by higher levels of petrol excise).

As a result, indirect taxes have to be levied at a higher rate upon a smaller share of the economy to produce the same revenue as a share of GDP. This is seen as a problem in that high rates may 'distort' economic choices significantly and may also encourage avoidance. However, the narrower base does also mean that compliance costs are in aggregate lower than they would be with a GST, for example.

A carbon tax would involve some broadening for the Federal tax regime, since fuels other than petroleum are largely taxed at a state level (through royalties, scarcity taxes and 'dividends'). It would provide a source of revenue which could grow in line with output (although the aim of greenhouse abatement would actually be the opposite, to further uncouple the linkage between economic and energy growth rates).

In this sense, it might be slightly preferable to raising the same amount of money by taxing petrol alone, or beer, or raising the wholesales sales tax rates. However, given the other striking gaps to which ACOSS and the Brotherhood have consistently drawn attention, a carbon tax would not be a high priority for addressing the limits of the indirect tax system.

The economic impact

The economic effects of a carbon tax depend on how the revenue is used: whether it is passed back through reductions in other forms of taxation, used to reduce borrowings or spent.

Thus as Quiggin (1995) pointed out, raising a carbon tax will not in itself have adverse economic impacts. Adverse impacts may be seen to arise if the total burden of taxation of business increases, but if the total burden is unchanged, and merely redistributed between different industries as would take place with carbon taxes substituting for payroll taxes, economic output and employment would probably increase. Although this remains uncertain, claims of economic damage by some business interests in these circumstances are probably overstated.

Payroll tax levels are not so high that their removal is an urgent priority for tax reform. A trade-off as suggested could have some merit but is unlikely in the short-term, not least because it would remove a major source of revenue for state governments.

Some commentators saw the carbon tax proposal in a good light simply because it was a consumption tax, and short-term macroeconomic considerations in late 1994 favoured reining in consumption, which was seen to be growing unsustainably. In this view, any tax increases should have been aimed at consumption, rather than at (high) incomes which were a source of savings.

However, from our perspective, the rapid growth in demand in the economy was largely coming from businesses with higher profits and from individuals who felt more able to spend, because they saw the likelihood of secure incomes in the future. The upsurge is unlikely to be coming from those people remaining on social security incomes; and any increase in their earnings (through additional part-time work) is already heavily taxed. A tax which falls fairly heavily, in terms of their spending ability, on low-income households would suppress demand, but in a way which was unacceptably inequitable.

Expenditure support for low-income households

Revenue from a carbon tax could be used to finance additional expenditure by low-income households which would reduce their ongoing energy payments. This was the basis of the Home Energy Advisory Service in Victoria, the main energy-saving benefits of which arose from loft insulation, particularly for electrically-heated dwellings. That service was discontinued in 1993.

ACF's submission proposed expenditure of some $35 million a year on low-interest loans or grants to low-income households. On its own, this would replicate the Victorian experience: solving a number of political problems but lacking the context or support in the long term.

A system of universal household upgrading, financed through the carbon tax, would appear a simpler approach if the energy efficiency benefits are really there to be found. Low-income households might require subsidies and targeted marketing to ensure that they gained access to the returns from the investments.

Alternatively, some carbon tax revenue could be used to directly finance expenditure support through expanded concessions for low-income households. This would tend to undercut any pricing signals for this group, but this might be appropriate. If compensation for the direct burden of the carbon tax were delivered via the states in this way, it could make a significant addition to the existing concession system.

To sum up...

Having considered both the thinking behind the proposals for a carbon tax and examining some of the implications for low-income households, we came to the following conclusions.

While a carbon tax may be inevitable in the long run, and while it can be defended on a number of grounds, there did not appear to be a strong case for its adoption on energy policy, tax policy or economic policy grounds in the present context.

If the context changed, this assessment would change. For example, such a tax could make sense and be acceptable as part of a concerted strategy to reduce greenhouse gas emissions, but alone it is unlikely to produce marked changes in user behaviour unless levelled at a high rate, which seems quite unlikely. Efforts to enhance the market acceptance of high-efficiency technologies through regulation and subsidy are arguably more powerful elements in such a strategy. Unfortunately, there appeared at the time to be little evidence of any concerted strategy around the greenhouse objectives at a national level, and the reorganisation of the electricity and gas industries has undercut some of the demand management elements which were emerging.

It seemed likely to us that the introduction of a carbon tax would only be likely to win the support of the public if it was introduced in the context of a clear and concerted greenhouse gas abatement strategy by the Federal Government.

Australia has a long history of energy taxation, usually levied at modest - but occasionally very high - rates. A modest carbon tax would be in keeping with this tradition. In itself it would not meet the aims of tax reform or revenue restoration which ACOSS and the Brotherhood have put forward. It would ease but not remove pressures to broaden the indirect tax base. It is unlikely that a trade-off for payroll taxation will take place.

Although a carbon tax would depress consumption more than some other tax options, it would do so in a regressive way. In particular low-income households whose incomes and expenditure has not risen would be asked to cut back on essentials. Protection of their living standards via compensation through higher pensions and allowances or through expenditure support would be necessary.

On balance, then, the Brotherhood took the view that it would have concerns with the introduction of a carbon tax in the 1995 budget:

As it emerged, neither of these were issues with which environment movement organisations had any difficulty, and there is little doubt that if their budget submissions had been accepted, Australia could have had carbon taxation without equity problems being raised as major objections by the community welfare sector.

Lessons for other areas

This example illustrates the key themes of the environment and equity debate listed earlier in this paper, particularly applied to the issue of constraining resource use.

  1. There is considerable goodwill and willingness to take environmental imperatives seriously, even if these threaten the short-term interests of the people the welfare sector seeks to assist.
  2. Social and environmental objectives intertwine. Carbon taxes have to be assessed as a revenue measure as well as an environmental measure, for example.
  3. Unpacking the environmental, economic and equity considerations is necessary to ensure that the arguments are really well-founded.

Tackling the problems of constraining resource use fairly requires the same sort of attention that is given to the more general question: 'what is a fair way of sharing in a society like Australia?'

The answers are to be found in the balance of all the instruments - taxing, income support, expenditure support and social service delivery -that underlie the standard of living of all Australians, but most particularly those on low incomes.

References

Australian Conservation Foundation (ACF) 1994, Investing in our future: priorities for the environment. Federal budget 1995-96. Submission to the Federal Government, ACF, Melbourne.

Common, M S 1990, 'The greenhouse effect: an economic perspective on origins and responses', Economic papers , vol. 9 no.1, March, pp28-40.

Department of Industry, Technology and Resources 1990, Renewable energy and energy conservation: green paper , DITR, Melbourne.

Quiggin, J 1995, 'Carbon tax could make more jobs', Australian Financial Review, 23 January, p17.


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