Friday, August 10, 2007

Carbon taxes and cap-and-trade

Global warming has become one of the key issues in this presidential election cycle. Various proposals have been floated to combat it, including alternate energy sources, carbon taxes, cap-and-trade policies. Greg Mankiw, Professor of Economics at Harvard and the Chairman of the President's Council of Economic Advisers from 2003 to 2005, is a strong advocate of a $1 per gallon gas tax. (Such a gas tax is a Pigovian tax levied " correct the negative externalities of a market activity.") Back in Oct, 2006, he wrote a manifesto for such a Pigovian tax for the Wall Street Journal (reprinted in his blog). He makes quite a compelling case, though he ends by recognizing the political hurdles in passing such a tax:

But don't expect those vying for office to come around until the American people recognize that while higher gas taxes are unattractive, the alternatives are even worse.

Interestingly, it seems that Barack Obama may be considering something that may be equivalent to this Pigovian tax. In a recent blog post, Mankiw points to an interview with Obama in which Obama says that he prefers a cap-and-trade system in which permits are auctioned of rather than being freely given away. Obama says that: I roll out my proposals for a cap-and-trade system, I will price permits so that it has much of the same effect as a carbon tax.

I don't understand the cap-and-trade system or what it means to auction off permits. But the idea of using auctions seems like a good way to price things (cf. Google's auction for keyword ads). And if it has the effect of a carbon tax, but is more palatable because it's more market-driven, then this sounds like a good thing.

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