A Green Approach to Tax Reform

Article excerpt

Political debates about taxes usually deal with the question of how much to tax. But an equally important question is what to tax. Current events may encourage policymakers to examine both questions more closely. The Bush administration has called for federal tax reform and appointed an advisory panel to develop recommendations. Because the administration has stipulated that any reform must be "revenue-neutral," there will be a need for a suite of revenue enhancements to counterbalance any tax reductions, such as the elimination of the alternative minimum tax. In addition, the nation is experiencing chronic budget deficits that likely will continue, especially as baby boomers begin to retire and collect Social Security and Medicare benefits, and thus necessity will fuel the search for new revenue sources. There is one possible source, largely overlooked, that can help to fill the nation's coffers and achieve other socially desirable goals in the process.

Federal taxes currently fall primarily on activities that drive economic productivity: work, savings, and investments. Such taxes can discourage people from pursuing these important activities. A better approach would shift more of the tax burden onto activities such as pollution and resource waste that make the economy unproductive and that reduce quality of life. In this regard, environmental charges--taxes or fees levied on firms based on the amount of pollution they release into the air, water, or soil--could play an important role. The charges could provide much-needed revenue and at the same time make the economy more efficient, stimulate technological innovation, protect human health, and improve environmental quality.

Correcting market failures

Environmental charges (or pollution charges, as they are also called) offer a means of tackling market failures that arise when businesses and consumers are not confronted with the full health and environmental costs associated with their activities. If designed appropriately, an environmental charge can address market failures by providing price signals that more accurately reflect these costs. Quite fairly, they make polluters pay for their damages and incorporate these costs into their decisions and product prices.

By affecting behavior through prices, pollution charges can have several advantages over more traditional environmental measures that often mandate that polluters cut emissions by exactly the same amount or use exactly the same emission-control technology. For example, pollution charges encourage cost-effective emission reductions; companies that can cut back at little cost will likely make major reductions, whereas companies facing higher costs will cut back less. The charges are flexible, enabling firms to make their own decisions on how to reduce emissions. They also can stimulate continuous technological innovation for better pollution control methods and cleaner inputs. And they generate revenue that can be used to meet other objectives.

Pollution charges can be used to mitigate many, though not all, types of environmental problems. They can be effective in addressing pollution caused by a large number of different sources--situations in which direct regulations or alternative regulatory mechanisms, such as permit trading, would be difficult to administer. They are well suited to situations where emission reduction costs differ significantly among polluters, so that a "one-size-fits-all" policy would be inefficient. They are effective at addressing environmental issues where there is no single technological fix. Likewise, they are appropriate when the environmental problem is not in danger of reaching a catastrophic threshold in the near future; this is because charges do not guarantee a ceiling on the amount of pollution released, just on the cost of pollution control. Finally, from an implementation perspective, they are appropriate when emissions or the products associated with emissions are relatively easy to measure or monitor. …