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Difference between Carbon Tax and Cap and Trade
Carbon Tax and Cap and Trade are policies to reduce carbon emissions through alternative ways by using market incentives to reduce emissions. Carbon Tax and Cap and Trade are opposite sides of the same coin.
What is Carbon Tax?
Carbon Tax is the tax that is levied on the carbon emissions required to produce goods and services. Under this, the government sets a price the emitters must pay for each ton of the greenhouse gas they emit.
A Carbon Tax sets the price of carbon dioxide and enables the market to determine the quantity of emission reductions.
What is Cap and Trade?
Cap and Trade is a system used for controlling carbon emissions and other forms of atmospheric pollution that limits the aggregate emissions from a group of emitters by setting a “cap” on maximum emissions.
Cap and Trade set the quantity of emission reductions and it lets the market determine the price.
Differences between Carbon Tax & Cap and Trade
The following table highlights the major differences between Carbon Tax and Cap and Trade −
Factors | Carbon Tax | Cap and Trade |
|---|---|---|
Profiteering | There are very few concerns. | Many companies reap vast profits for
themselves on the basis of how the
permits are designed and distributed. |
Emission
certainty | Taxes could be set at levels where it
is expected to deliver a given
reduction in CO2 over time. For example, in good economic times, the industry as a whole or a few specific companies may decide to pay the tax and meet the market demand for products. | The firms can set limits on emissions
through the politicians may
continually back off from it. |
Price
predictability | The level of tax is fixed and the
businesses will know exactly how
much energy purchase/consumption
will cost. | The prices for emissions permits may
fluctuate in an open market, which
might cause some real planning
challenges in the business and lead to
emergency “changes” in the rules. |
Incentives and
investment | As the cost is fixed it enables the
business to make more informed and
confident business investments to
reduce the CO2 emissions, but the
ROI will depend on the level of tax. | As the overall cost of emissions is
more volatile, the investments in new
technologies to reduce emissions are
likely to be constrained by the last of
clarity about ROI. |
Overall
effectiveness | It is less subject to political
manipulation, but the level of tax
that is needed to make an impact is
not well understood in this case, and
it is also not clear if the politicians
are willing to go that far anyway. | It is highly dependent on the details
of how aggressively the caps are
phased in, how the permits are
created and distributed, and various
other factors. |
Time to results | In theory it could be implemented
way faster but it would impact the
behavior only at levels the
government would fear to go. | It might take fairly long to set up all
the mechanisms and achieve the end
rustles. |
Conclusion
While Carbon taxes are way easier to implement and are less open to political challenges, the Cap and Trade systems are more likely to provide appropriate pricing to incentivize the changes which are needed to combat climate change.
Cap and Trade have one environmental advantage over Carbon tax as it provides more certainty about the number of emission reductions that will lead to a little less certainty about the price of emissions (which are set by the emissions trading market).
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