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Finance & Economics

Should the Inflation Reduction Act End the Dream of a National Carbon Price?

Other Policies May Better Address Gaps in the New Federal Climate Strategy

Economists can be proud of their long-standing and unwavering support for a price on carbon dioxide emissions. After all, a carbon price encourages emissions reductions wherever and however they can be achieved at a low cost, while providing revenue for an equitable energy transition. The most successful decarbonization efforts in the world are in Europe,[1] where carbon prices above $50 per ton are central elements of climate policy strategies.[2]

In the United States, a movement for a national carbon price has been alive for decades with a consistent drumbeat of support from not only economists[3] but also members of Congress,[4] advocacy groups,[5] and international organizations.[6] In full disclosure, I contributed my share of fodder.[7]

But when the facts on the ground change, policy strategies should too. With Congress passing a series of laws that amount to the nation’s first climate strategy, long-time supporters of a national carbon price should consider shifting their focus to alternative policies that can better fill the gaps in the current strategy.

Carbon Prices Address Cost Differences Between Clean and Dirty Products. The Inflation Reduction Act Does That Too.

Thanks to the Inflation Reduction Act (IRA) and Bipartisan Infrastructure Law, the United States finally has a credible federal climate policy strategy. These policies may not be anyone’s ideal, but rather what could garner majority votes in Congress. And at first glance, many of the limitations of the current policies—insufficient emissions reductions, a lack of coordination across sectors, inadequate support for vulnerable communities—could be addressed by a carbon price and its associated revenue.

Bill Nye explains carbon pricing on the television show Last Week Tonight.

However, as Bill Nye famously explained to John Oliver (with safety glasses on), the fundamental logic of carbon pricing is to raise prices on carbon-intensive products so that we buy less of them. So, a carbon price is an effective way to reduce emissions when the primary barrier to emissions reductions are the price differences between dirty and clean products. Specifically, prior to the passage of the IRA, the vast majority of the emissions reductions from a carbon price would have come from raising the costs of dirty electricity because of the availability of relatively cheap and clean electricity sources.[8]

The IRA also changes the relative prices of clean and dirty products, just by the opposite means: by making clean energy cheaper. Among many provisions to reduce the costs of clean electricity are payments[9] to prevent the retirement[10] of nuclear power plants, and a production tax credit of around $26 to $32 per megawatt/hour for renewables.[11] In changing the relative price between carbon-free and fossil fuel energy, that subsidy is equivalent to a carbon price of around $70 per metric ton on natural gas and $30 per metric ton on coal, which could cause coal-fired electricity to fall to very low levels by 2030.[12] Moreover, the Rocky Mountain Institute analyzed all of the new fossil fuel electricity plants that are currently being proposed and found that virtually none can be justified as the low-cost option once the IRA subsidies are considered.[13] Forthcoming EPA regulations will make the production of fossil fuel electricity even more expensive, tipping the relative cost scales further in the direction of cheap clean energy.[14]

The higher costs of clean energy may no longer be the most important barrier to emissions reductions in the United States this decade. That does not make a carbon price a bad policy. However, without the promise of large emissions reductions from a carbon price, policymakers are lacking what was the primary justification[15] for a policy that transparently raises the costs of everyday activities like driving cars and heating homes.

Supplement the Current Strategy With a National Climate Law and Targeted Sector-specific Policies

A carbon price is a means to an end—i.e., an efficient, equitable, and coordinated economywide decarbonization policy—not the end itself. Can other policies achieve similar outcomes without the price-hiking-baggage of a national carbon price? With thoughtful policy design and a willingness to accept that perfectly efficient policies are out-of-reach, the answer is almost certainly yes.

Where clean products are already the cheap options, policies can target non-price barriers that impede decarbonization efforts. For example, eliminating bureaucratic barriers to large construction projects has enormous potential to enable a more rapid expansion of clean energy infrastructure that can translate to large emissions reductions (as well as inequities, without careful policy design and implementation).[16] An analysis by Princeton University scholars finds that ensuring sufficient electricity transmission could reduce 2030 US greenhouse gas emissions by around 800 million tons compared to a scenario where transmission continues to be built at its historical pace.

For large emissions sources like vehicles and heating, deep emissions cuts will require a lot of electrification.[17] A carbon price that raises the costs of fossil fuels and electricity is not an effective way to encourage consumers to purchase electric vehicles and electric heat pumps.[18] More effective policies can combine mandates to reduce emissions with the characteristics that make carbon prices so efficient. For example, technology-neutral targets can enable the best solutions to emerge over time as technologies evolve, and the trading of emissions permits can enable the lowest-cost opportunities to reduce emissions to occur first. Along these lines, Colorado is implementing a flexible Clean Heat Standard that requires natural gas utilities to gradually cut emissions by 22% by 2030.[19]

These sector-specific solutions lack a mechanism for coordination across the economy or harmonization with emissions targets. A national climate law, like the United Kingdom’s Climate Change Act, can play that role. The UK’s law combines a binding net zero target, a series of five-year “carbon budgets,” and an iterative and inclusive process of implementing, reviewing, and revising policies to stay on track with its goals.[20] Like committing to high future carbon prices, a national climate law could change the long-term expectations of investors and entrepreneurs by ensuring climate solutions will be profitable in a future low-carbon economy.

Aspirational Climate Policy After IRA

Additional largescale climate policy, like a national climate law or a clean heat standard, may not be feasible any time soon with a split U.S. Congress. But for carbon pricing supporters, the lack of immediate political viability has rarely been a primary concern. Instead, carbon pricing has been an aspirational goal because it is an ideal starting point for a rapid, equitable, and cost-effective decarbonization strategy.

Fortunately, the United States no longer needs a starting point. The new question before us is how to improve on the current strategy. For those who have long supported carbon pricing, a fresh-eyed look at this question may yield new answers.


[1] https://www.tandfonline.com/doi/full/10.1080/14693062.2021.1990831

[2] https://openknowledge.worldbank.org/handle/10986/37455

[3] https://clcouncil.org/economists-statement/

[4] https://citizensclimatelobby.org/carbon-pricing-congress/

[5] https://citizensclimatelobby.org/about-ccl/

[6] https://www.imf.org/en/Blogs/Articles/2022/05/19/blog-why-countries-must-cooperate-on-carbon-prices#:~:text=One%20way%20to%20square%20this,their%20level%20of%20economic%20development.

[7] https://energypolicy.columbia.edu/sites/default/files/file-uploads/Kaufman-Testimony_CGEP_Commentary_120319-2.pdf

[8] https://www.energypolicy.columbia.edu/research/report/energy-economic-and-emissions-impacts-federal-us-carbon-tax

[9] https://www.energy.gov/ne/articles/inflation-reduction-act-keeps-momentum-building-nuclear-power

[10] https://rhg.com/research/climate-clean-energy-inflation-reduction-act/

[11] https://www.mossadams.com/articles/2022/08/inflation-reduction-act-clean-energy-credits#:~:text=The%20Inflation%20Reduction%20Act%20extends,certain%20wage%20and%20apprenticeship%20requirements.

[12] https://www.energypolicy.columbia.edu/sites/default/files/file-uploads/CarbonComplement_CGEP-Report_111522.pdf

[13] https://rmi.org/business-case-for-new-gas-is-shrinking/

[14] https://www.evergreenaction.com/documents/Evergreen-FallingBehind-EPAReportCard.pdf

[15] https://www.whitehouse.senate.gov/news/release/whitehouse-schatz-heinrich-gillibrand-introduce-updated-carbon-fee

[16] https://www.nature.org/en-us/newsroom/permitting-reform-missed-opportunity/

[17] https://www.energypolicy.columbia.edu/research/report/electrification-path-net-zero-comparison-studies-examining-opportunities-and-barriers-united-states

[18] https://energyathaas.wordpress.com/2021/01/04/what-matters-for-electrification/

[19] https://www.energy.gov/sites/default/files/2022-08/bbrn-peer-072822.pdf

[20] https://www.lse.ac.uk/granthaminstitute/explainers/what-is-the-2008-climate-change-act/

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