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Many countries have implemented taxes on environmentally destructive products and activities while simultaneously reducing taxes on income. The scale of tax shifting has been relatively small thus far, accounting for only 3 percent of tax revenues worldwide. It is increasingly clear, however, that countries are recognizing the power of tax restructuring to reach environmental goals.
The market price for a gallon of gasoline, for example, reflects the cost of drilling, extracting, refining and transporting the oil. The market price does not account for the air pollution and acid rain produced by burning gasoline, nor its contribution to climate change as evidenced by rising temperatures, rising sea levels, and more destructive storms. Raising taxes on environmentally destructive products and activities is designed to more closely align the market prices with their actual costs.
Germany, a leader in tax shifting, has implemented environmental tax reform in several stages by lowering income taxes and raising energy taxes. In 1999, the country increased taxes on gasoline, heating oils, and natural gas, and adopted a new tax on electricity. This revenue was used to decrease employer and employee contributions to the pension fund. Energy tax rises for many energy-intensive industries were substantially lower, however, reflecting concerns about international competitiveness.
In 2000, Germany further reduced payroll taxes and increased those on motor fuels and electricity. As a result, motor fuel sales were 5 percent lower in the first half of 2001 than in the same period in 1999. Meanwhile, carpool agencies reported growth of 25 percent in the first half of 2000. Thus far, Germany has shifted 2 percent of its tax burden from incomes to environmentally destructive activities.
One part of the United Kingdom's environmental tax reform involved a steadily increasing fuel tax known as a fuel duty escalator, which was in effect from 1993 until 1999. As a result, fuel consumption in the road transport sector dropped, and the average fuel efficiency of trucks over 33 tons increased by 13 percent between 1993 and 1998. Ultra-low sulfur diesel had a lower tax rate than regular diesel, which caused its share of domestic diesel sales to jump from 5 percent in July 1998 to 43 percent in February 1999; by the end of 1999, the nation had completely converted to ultra-low sulfur diesel.
The Netherlands has also shifted taxes to environmentally destructive activities. A general fuel tax, originally implemented in 1988 and modified in 1992, is now levied on fossil fuels; rates are based on both the carbon and the energy contents of the fuel. Between 1996 and 1998, a Regulatory Energy Tax (RET) was implemented, which taxed natural gas, electricity, fuel oil, and heating oil. Unlike the fuel tax, which was designed principally for revenue generation, the RET's goal was to change consumer behavior by creating incentives for energy efficiency. To maintain competitiveness, major energy users were exempted from the taxes, so this tax fell mainly on individuals.
Since sixty percent of the revenue from these Dutch taxes came from households, the taxes were offset by decreasing income taxes. The 40 percent of revenue derived from businesses was recycled through three mechanisms: a reduction in employer contributions to social security, a reduction in corporate income taxes, and an increased tax exemption for self-employed people. This tax shift has caused household energy costs to increase, which has resulted in a 15-percent reduction in consumer electricity use and a 5- to 10-percent decrease in fuel usage.
Finland implemented a carbon dioxide (CO2) tax in 1990. By 1998, the country's CO2 emissions had dropped by almost 7 percent. Finland's environmental taxes, like those in most countries, are far from uniform: the electricity tax is greater for households and the service sector than for industry.
Sweden's experiment with tax shifting began in 1991, when it raised taxes on carbon and sulfur emissions and reduced income taxes. Manufacturing industries received exemptions and rebates from many of the environmental taxes, putting their tax rates at half of those paid by households. In 2001, the government increased taxes on diesel fuel, heating oil, and electricity while lowering income taxes and social security contributions. Six percent of all government revenue in Sweden has now been shifted. This has helped Sweden reduce greenhouse gas emissions more quickly than anticipated. A political agreement between the government and the opposition required a 4-percent reduction below 1990 levels by 2012. Yet by 2000, emissions were already down 3.9 percent from 1990-in large measure due to energy taxes.
The myriad exemptions given to energy-intensive industries in existing tax shift programs, created out of legitimate competitiveness concerns, slow the creation of more effective tax systems. Using border tax adjustments-where companies have environmental taxes rebated to them upon export and have domestic environmental taxes added to imports-can ensure international competitiveness without tax exemptions.
Eliminating subsidies to environmentally destructive industries will also help the market send the right signals. Worldwide, environmentally destructive subsidies exceed $500 billion annually. As long as government subsidies encourage activities that the taxes seek to discourage, the effectiveness of tax shifting will be limited.
If properly constructed, tax shifts can help make markets work more effectively by incorporating more of the indirect costs of goods and services into their prices and by changing consumer and producer behavior accordingly. The emergence of a world-leading wind turbine industry in Denmark, for example, is one result of Danish taxes on fossil fuels and electricity, which are among the highest in the world. These measures have also spurred sales of energy-efficient appliances and encouraged other energy-saving behavior.
Expanding the tax base to encompass more products and services with deleterious environmental impacts would greatly enhance the effectiveness of tax shifting. Aviation fuel, for example, is currently tax-free worldwide, despite airplane emissions causing 3.5 percent of global warming. However, recent European discussions of imposing taxes on jet fuel are a promising development. Such taxes might slow the projected growth in worldwide air travel and encourage manufacturers to make efficiency improvements that lower jet fuel consumption.
The goal of tax restructuring is to get the market to tell the ecological truth. Thus far, tax shifts have been limited in scope and have produced positive, if modest, results. Creation of an eco-economy calls for tax shifts on a broader scale, and of much larger magnitude, in order for prices to incorporate environmental costs and to produce the requisite changes in individual and collective behavior.
Copyright © 2002 Earth Policy Institute