A Non-Pigovian Argument for Higher Carbon Taxes

If you ask many citizens, particularly economic and fiscal conservatives, about what they value in our society, you will often get a response such as "hard work, saving, investment, and entrepreneurship". One such example is by the About.com Guide to Conservative Values, who writes:

Fiscal conservatives believe that the tax code... should encourage, rather than discourage, investment, hard work, and savings.

Similar sentiments were echoed by George W. Bush, who recently stated:

I believe that wealth does not come from government. It comes from the hard work of America's workers, entrepreneurs and small businesses.

But consider where the government gets their funding (or as governments typically call the money they collect - their "revenue") In 2006, the Canadian government collected revenue in the following proportions.

Canadian Government Revenue by Source

1. Investment, Employment, and Payroll Income - 71 percent
2. Sales and Customs Taxes - 18 percent
3. "Sin" (alcohol, tobacco, carbon based fuels) taxes - 4 percent
4. Other government revenue - 7 percent

Because tariffs are typically placed on imported goods in order to reduce their domestic consumption, they could be considered a sin tax. Although many believe that the government should not place restrictions on imports, for the sake of argument we will include them in our list of sin taxes. Doing so changes the numbers only slightly:

Canadian Government Revenue by Source - Adjusted

1. Investment, Employment, and Payroll Income - 71 percent
2. Sales Taxes - 16 percent
3. "Sin" and customs taxes - 6 percent
4. Other government revenue - 7 percent

Over 71 percent of the revenue collected by the Canadian government comes from taxing the very things we believe benefit society the most. Only 4-6 percent of taxes come from activities which many believe that the government should be trying to curb. And Canadians do believe that the country should reduce greenhouse gas (GHG) emissions and air pollution. According to a 2006 poll, 77 percent of Canadians believe that the country should meet our exceed Kyoto targets for GHG emissions; this would naturally require a reduction in the use of carbon based fuels.

Does the fact that the Canadian government only collects 4-6 percent of its revenue from activities it is trying to discourage and 71 percent of its revenue from activities it is trying to promote make any sense what so ever?

The reason does so cannot be because taxing investment and employment income is particularly efficient. In the article Canadian Conservatives Promote Cutting Consumption Taxes we saw that these taxes are particularly destructive to economic growth, particularly corporate income and capital taxes. It also is not because these taxes are particularly progressive, as Canadian payroll taxes are one of the most regressive taxes around.

We can redesign the tax system in order to reduce taxing the values we share, such as investment and hard work. As with all discussions of taxation, we naturally need to consider the tradeoffs between efficiency and equity. It may be possible, though it appears difficult, to create a tax regime based on enhanced pollution taxes which is simulatenously more efficient in terms of economic growth and more progressive. One such attempt to do so was global warming skeptic Ross McKitrick's paper Double Dividend Environmental Taxation and Canadian Carbon Emissions Control (PDF file). I am currently conducting updated research in order to construct such a system.

I believe, however, that this goes far beyond numbers and economics. Rather it is about values. If we wish to promote "investment, hard work, and savings", these should not bear the vast majority of our tax burden. You can judge a society by the values it promotes and what it discourages. What does our tax system suggest about our values?

For additional reading on the subject, I highly recommend Roger Martin's Smart Taxes vs. Dumb Taxes (PDF file).

I would love to hear your thoughts on the matter. You can contact me by using the feedback form