Carbon pricing schemes are an effective way to reduce greenhouse gas emissions, but do they produce socially equitable outcomes? Drawing on a new study, Linus Mattauch and Jiaxin Zhao compare whether carbon pricing schemes are fairer than energy standards, such as fuel economy rules for cars. They find that energy standards can be fairer for certain products, but this depends on a variety of factors.

Setting an appropriate price on carbon is the most economically efficient way to achieve net zero emissions by the middle of this century. But can carbon pricing promote social equality or are other policy tools better suited to this goal?

Many people think there is a simple answer to this question: just make sure the revenue generated by a carbon price is mainly used to support low-income households. But others doubt the political feasibility of this approach, pointing out that where carbon prices have been successfully introduced, revenues have rarely been spent progressively.

Real world politics seems to mean this revenue is far more often earmarked for green projects rather than improving the lives of those on low incomes, if they are earmarked for anything specific at all. The UK’s carbon price revenue, for instance, goes into the government budget for a variety of purposes. Social justice, it seems, is rarely prioritised when it comes to carbon price reforms.

This debate deserves to be taken seriously. While beautifully efficient, and progressive carbon price policies can be drawn up in economics papers, their promise is empty if they cannot stand up to political reality. On the other hand, if real-world carbon pricing can be progressive, we would have an important way to combine efficiency and justice.

Carbon prices vs energy standards

To investigate this issue, we have used empirical data on car sales to model the equality effects of carbon prices compared to environmental energy standards. Two robust results emerged from our research. First, carbon prices complemented by progressive redistribution of the revenue generated (such as in Austria or Switzerland) do indeed reduce income inequality better than energy standards. This is unsurprising, since energy standards do not create tax revenues that can be redistributed to low-income households.

But what if such progressive redistribution is a rare exception to political reality – a policy red herring, as it were? Assuming carbon price revenues will almost always go into the general government budget or towards green projects, our study shows energy standards can indeed be more socially just. This is because, for certain goods such as cars, richer consumers often buy fancier versions that can be harder to decarbonise. Thus, if social justice is ignored or not possible in an environmental tax reform, an energy standard can be fairer.

The “what” and “how” of energy standards matters

Whether energy standards will actually be fairer depends on what products are covered and how the standards are designed. Standards on household goods like dishwashers, for example, are not progressive because richer households simply buy more efficient dishwashers. In cases like these, carbon prices – even where revenue is not redistributed to poorer groups – are less regressive than efficiency standards.

But where people choose durable products for reasons other than energy efficiency, the opposite is true. For example, people buy cars not only for better fuel economy, but also for attributes such as acceleration and comfort. If these other deciding factors make it more difficult to produce energy-efficient products, energy standards can be less regressive than carbon prices.

Lessons for climate policy

Our findings confirm that whether carbon prices or energy standards promote social equality depends on one crucial factor: the political feasibility of redistributing carbon price revenues to low-income households. This implies three important lessons for climate policy.

First, it is important to increase political pressure for a socially just carbon tax where it has a chance. Countries like Austria and Switzerland show that the socially just use of carbon price revenues is possible, albeit rare. These pioneers indicate that socially just carbon pricing is perfectly feasible for most European countries.

The recent COVID-19 and energy crises in Europe indicated that governments need to build more capacity to deliver targeted financial support. Strong political pressure is needed to push governments to pursue progressive domestic carbon pricing. This is particularly the case for carbon pricing in the transport and building sectors, which is set to be introduced from 2027 as part of the EU’s Green Deal. After the European elections in June, the next EU Commission should not retreat from the use of carbon pricing in the way already planned.

Second, we must learn from previous mistakes in the design of energy standards to ensure they help those on low incomes. If we are to use fuel economy standards to reduce carbon emissions, it is important to remember that such standards in the past were highly regressive. These standards differentiated between manufacturers, with less effective standards being applied to the manufacturers of larger and heavier cars. Similar measures in future should be applicable to all car brands.

Finally, it is vital to appreciate the political differences that exist between the Global North and Global South. International organisations have occasionally “exported” the idea of socially just carbon prices to countries in the Global South. However, carbon prices in these countries are usually already progressive, even without redistribution.

Political and economic conditions in other regions are very different those in Europe, where carbon pricing is most advanced. On balance, it will be harder to convince people in the Global South that revenues will be returned to them, even if successful cases of fossil fuel subsidy removal, such as in India, perhaps offer some positive lessons for raising carbon pricing.

For more information, see the authors’ accompanying paper in the Journal of Environmental Economics and Management

Note: This article gives the views of the authors, not the position of EUROPP – European Politics and Policy or the London School of Economics. Featured image credit: khunkornStudio / Shutterstock.com