Question

Compare and contrast the advantages/disadvantages of a tax system versus a tradeable permit system. Which one would you choose to correct externalities associated with carbon emissions? Defend your answer with at least three reasons.

Answer 1

Carbon TAX : Firms are certain about the price of carbon emission due to aforesaid fixed tax rate .

The level of emission varies since there is no cap set on level of emission . But if emission is high then tax revenue increases .

The level of carbon emitted is set per tonne of produced carbon which translates into tax on electricity or gas which creates the carbon emission .

TRADING system :   The price of emission is not constant since trading or few number of permits and large demand may vary the price of permits .

The level of emission is constant since the number of permits circulated is known and the limit set by them.

The level of emission is by offering permits on every tonne of carbon produced , so it like offering permits on quantity of carbon producing agents or the technology used indirectly .

After analysing the differences between both systems I think tradeable permits are the better option . Tax does not define specific emission levels but permits does that . The goal is to control emission to a certain level and not to increase just revenue . Tax face a lot of political resistance and can reduce incentives of production and growth . Some firms which sell inelastic goods may shift the burden of tax on consumers and continue to pollute the environment . They will pay the tax but not reduce pollution since that is more profitable .