November 13, 2012
By Terry Dinan
Imposing a tax on carbon dioxide emissions would reduce the damage from climate change but would also impose a larger burden, relative to income, on low-income households than on high-income households. This paper evaluates two broad groupings of options for reducing the regressive effects of a carbon tax; one group of options would affect large segments of the economy, for example by reducing payroll taxes, and the other group of options would be targeted at low-income households, for example by providing an additional payment to households currently receiving electronic transfer benefits. Each option is evaluated based on the percent of low-income households that it would affect, whether it would provide comparatively larger benefits for lower-income households, its administrative costs, and its implications for economic efficiency, specifically whether it would increase incentives to work and invest and whether it would preserve the incentives to reduce emissions that the carbon tax would create. The broad based options could potentially provide support for a relatively large share of low-income households, but some of those options would provide relatively small benefits to those households. Options specifically targeting low-income households could be most effective in reaching households that do not file income taxes or that do not have earnings. Three of the seven options considered would increase the incentive to work or invest and all but one of the options would preserve the incentive to reduce emissions of carbon dioxide.