Carbon Tax & Environmental Fiscal Reform

National Treasury

Ismail Momoniat | DDG – Tax and Financial Sector Policy, National Treasury | 25 August 2011

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Introduction

• Climate change poses the biggest challenge that the world faces and we need to act

• We need to find a sustainable developmental path, taking into account the need for economic growth, job-creation and eliminating poverty

• This challenge is tougher after the 2008 Great Financial Crisis, and the structural changes they herald

– Care needs to be taken about promoting “innovative” finance when we probably mean “catalysing” finance

• Global co-ordination necessary for effective action (as with the fin crisis), but should not be an excuse not to act

– Beware WTO type negotiations and paralysis!!!

• Fiscal measures only work if supported by complementary non-fiscal measures (eg regulations)

Environmental Challenges

• SA economy built on a low-cost coal-energy foundation, with seemingly

few alternative energy sources like gas.

• South Africa also faces a number of environmental challenges that is

likely to be aggravated as the economy grows if natural resources are not

properly managed and protected. These include:

– emissions of local air pollutants that manifest in poor air quality with

adverse impacts on society;

– excessive emissions of greenhouse gases that contribute to global

warming (Climate Change);

– inappropriate land-use that results in land degradation;

– biodiversity loss and damage to terrestrial ecosystems;

– deteriorating water quality with severe impacts for South Africa as a

water stressed nation; and

– increasing levels of solid waste generation comparable to many

developed countries. 3

Environmental Fiscal Reform

• The Environmental Fiscal Reform Policy Paper (initially published in April 2006) provided a foundation to build on and support environmentally related fiscal reforms in SA

• Maintenance of a coherent tax policy framework

• Development of a coherent process and framework to consider and evaluate environmental taxes

• Need to deal with market failure: market prices do not reflect full economic costs of production or consumption / use

• Consider both environmental and revenue outcomes and the “double-dividend” hypothesis

• Transparency in budgeting system rather than earmarking

• Need to develop spending capacity with viable projects ready to be funded, as well as R&D

– Beware of donor funding dependency paralysis!

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Policy synergy and the context for a

carbon tax

• National Environmental Management Act (Act No. 107 of

1998). Air Quality Act (Act No.39 of 2004)

• Environmental Fiscal Reform (2006)

• LTMS (2007/08)

• ANC Resolution on Climate Change, 2007

• Climate Change Response Document (2010)

• New Growth Path, Green Growth

• IRP2 (2010/11)

• Low carbon economy - NPC

• SARI

• Global Sustainability Panel

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Long Term Mitigation Scenarios

(Wedges) – rank emission reductions

• Limit use of SUVs (36)

• Passenger modal shift (16)

• Improved vehicle efficiency (14)

• SWH subsidy (25)

• Industrial, Commercial,

Residential energy

efficiency (5, 22, 21)

• Renewables with learning

extended (subsidy) (6, 7)

• Nuclear (12, 8)

• Cleaner coal (28)

• Land use: afforestation (27)

• Escalating CO2 tax (1)

• Nuclear and renewables

extended (2)

• CCS (2 Mt & 20 Mt) (26, 19)

• Electric vehicles with

nuclear, renewables (3)

• Biofuel subsidy (29, 15)

• Hybrids (23)

• Synfuel CCS (2Mt) (32)

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Approach to Intervention

• Education, Education, Education

– Need to educate the public, and win public support

– Beware of using a fear or non-scientific approach

• Think and Act Long-term and not Short-Term

• Command-and-control measures:

– Use of legislative or administrative regulations that prescribe certain

outcomes;

– Usually target outputs or quantity, e.g. minimum ambient air quality

standards, within which business must operate.

• Market-based instruments:

– Policy instruments that attempt to internalise environmental

externalities through the market by altering relative prices that

consumers and firms face;

– Utilise the price mechanism and complement command-and-control

measures.

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Carbon Tax vs. Emissions Trading

Carbon Tax

• Price certainty – fixed price

• Emission reductions –quantity uncertain

• Administration and compliance – piggy back on existing administrative systems

• Visibility of tax

• Design – tax base, collection point, price level

Emissions trading

• Price uncertainty – volatility

• Emissions are capped – quantity certain

• Complexity – negotiations, high transaction costs, new institutions.

• Some costs (and benefits) are hidden

• Coverage, point of obligation, cap level

Carbon Pricing (1)

• The use of market based instruments (such as taxes, user charges and

incentives / subsidies) influence prices and appropriate price signals are

critical to ensure the most optimal allocation of scares resources .

• It is important to emphasis that the use of market-based instruments to

address environmental concerns are first and foremost to correct for

market failures (to internalize externalities).

• The resulting revised price levels is expected to lead to changes in

behaviour by both consumers and producers.

• Though there may be revenue benefits (double dividend), South Africa

could consider imposing carbon taxes in a revenue-neutral manner.

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Carbon Pricing (2)

• From a policy perspective it is thus important to note that a carbon price

is intended to correct for one for the most significant global market

failures.

• How the revenue raised via a carbon tax (or the auctioning of permits

under an emissions trading scheme) is used will impact on the overall

economy of a country as well as the distributional implications and on the

competitiveness position of trade exposed and energy intensive sectors.

• Some form of tax shifting and /or revenue recycling might be appropriate.

• Tax shifting implies that the revenue from for example a carbon tax could

be used to reduce other more distortionary taxes – such a payroll taxes.

• Revenue recycling mean that some of the revenue from a carbon tax

could be used to fund initiatives to neutralize the impact on the poor, e.g.

free basic electricity, subsidized public transport, subsidized solar heater

geysers, or temporary relief or incentives to industries (e.g. the proposed

energy efficiency savings tax incentive).

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Carbon Tax: Design Considerations

1. Carbon Emissions Tax

Actual measured emissions; or

2. Proxy tax bases:

A. Fossil Fuel Input (Upstream):

where fuels enter the economy based on the carbon content of the fuel.

B. Output Tax (Downstream):

(i) At point where fuel is combusted.

(ii) May be based on average emissions of production processes.

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Tax Design Considerations

• Actual measured emissions – Can be precisely targeted –

as emissions rise, polluters tax liability rises.

– Administratively challenging: a large number of emission sources need to be monitored and measured.

– Requires technological capacity, systems and human resources to measure and monitor

• Upstream Taxes

– Close correlation between energy source carbon content and eventual levels of emissions.

– Upstream – involves fewer taxpayers. Lower administrative costs if carbon tax is levied upstream on producers rather than downstream on fuel users.

– Piggyback on existing tax systems.

– Upstream tax systems should be combined with a crediting system to encourage development and adoption of carbon capture and storage technologies.

International Climate Change Financing

• As part of the UNFCCC negotiation process climate finance is raised in

the context of : “catalysing efforts in developing countries to strengthen

climate resilience, curb greenhouse gas emissions and support

sustainable development (UN SG High-Level Advisory Group)” .

• The Advisory Group has grouped potential funding sources into four

groups:

- public sources for grants and highly concessional loans

(generated from taxes, including a carbon tax)

- development bank-type instruments

- carbon markets

- private capital

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International Climate Finance – Revenue

Sources

• The following specific potential sources of funding has been identified:

– Carbon pricing instruments such as taxes and auctioning of

allowances under trading schemes

– International transport taxes (aviation and maritime)

– A global financial transaction tax

– Direct on budget contributions (public finance sources)

– International private investment flows such as concessional and non-

concessional public financing

– Carbon markets

• The Advisory Group has emphasized the importance of the “political

acceptability” of any proposed instruments in both developed and

developing countries and the likely incidence of an internationally

imposed tax on developing countries.

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International Context for Climate Finance

• Under the United Nations Framework Convention on Climate Change

(UNFCCC), developed countries are required to provide funds to support

developing country climate change actions. Article 4.3 of the Convention states

that:

– The developed country parties and other developed parties included in annex

II shall provide new and additional financial resources to meet the agreed full

costs incurred b developing country parties in complying with their obligations

under Article 12, paragraph 1.

– They shall also provide such financial resources, including for the transfer of

technology needed by the developing country parties to meet the agreed full

incremental costs of implementing measures covered by paragraph 1 of this

article and that are agreed between a developing country party and the

international entity or entities referred to in Article 11.

• The implementation of these commitments shall take into account the need for

adequacy and predictability in the flow of funds and the importance of appropriate

burden sharing among the developed country parties

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What does this mean?

• Developing countries should be compensated for actions taken to

address climate change resulting primarily from historical greenhouse

gas emissions of developed countries in line with the principle of

common but differentiated responsibilities and respective

capabilities.

• Commitment from Copenhagen Accord and Cancun Negotiations

– Short term: fast start finance of US$ 30 billion for the period 2010 –

2012 and

– Long term finance: of $100 billion is to be provided by developed

countries by 2020.

• Long term finance to be channeled through the Green Climate Fund,

fund under development.

• Key challenge (if we learn from our own experience in SA) is to develop

our capacity to have projects on the table that can use the available

funding

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Multilateral - Climate Change Funds

Fund Focus Administration Effective

Adaptation fund Adaptation Adaptation fund board 2009

Climate investment fund: Clean

technology fund

Mitigation World Bank 2008

Climate Investment fund:

Strategic Climate Fund

Adaptation and

Mitigation

World Bank 2008

Forest Carbon Partnership

Facility

Mitigation –

REDD

World Bank

2008

Forest Investment Programme Mitigation –

REDD

World Bank 2009

Global Environment Facility trust

fund

Mitigation and

Adaptation

Global Environment Facility 1994

Least developed countries fund Adaptation Global Environment Facility

2002

Special climate change fund Adaptation and

mitigation

Global Environment Facility

2002

UN-REDD Programme Mitigation -

REDD

United Nations Development

Programme

2008 17

Bilateral Funds

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Fund Country Focus area Effective

date

Hatoyama Initiative – Private

and Public Sources

Japan Adaptation and

mitigation

2008

International Climate Fund United

Kingdom

Adaptation and

mitigation

2008

International Climate Initiative Germany Adaptation and

mitigation

2008

International Forest Carbon

Initiative

Australia Mitigation - REDD 2007

Objectives of key funds: Climate Invest

Funds

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• Clean Technology Fund:

– invests in the demonstration, deployment and transfer of low carbon

technologies. Key sectors include electricity generation, transport

(modal shifts to public transportation) and energy efficiency

investments by the industrial, commercial and residential building

sectors.

• Strategic Climate Fund: is an overarching fund for funds aimed at

piloting new approaches to climate change or scaling up activities

focusing on a specific climate change response. Three funds operated

under the SCF:

– Pilot programme fo Climate Resilience

– Forest Investment Programme

– Scaling up Renewable Energy in Low Income Countries Programme

Objectives of key funds: Global Environment

Facility

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• GEF Trust Fund:

– Supports climate mitigation efforts of developing countries: focus

areas include renewable energy, energy efficiency, sustainable

transport and management of land use, land-use and forestry

(LULUCF)

• Least Developed Countries Trust Fund

– Supports needs of the Least Developed Countries which includes

developing National Adaptation Programmes of Action

• Special Climate Change trust Fund

– Supports implementation of long-term adaptation measures of

developing countries and technology transfer

– for adaptation, funds channeled towards water resource

management, land management, agriculture, health, infrastructure

development and climatic disaster risk management.

Conclusion

• Education, Education, Education, based on science and not fear

• Think and act long-term, and differentiate btw LT vs ST benefits and

costs

• Global co-ordination is critical, but should not delay action

• Plethora of funding windows – are we not making the difficult impossible?

• Sustainable growth, job-creation and eliminating poverty

• Pricing carbon through the carbon tax, and possibly later of an EMS

• Transparency in budgeting and not earmarking

– Spending and investing for the LT

– Need to ensure we have projects

• Complementary non-fiscal measures like regulatory standards

• Accountability for performance

– Dealing with delays on procurement etc

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