I understand the theoretical argument for the equivalence of cap and trade and the carbon tax in conditions of full information and perfect compliance, but I think it’s sort of crazy to think they’re equivalent in any meaningful empirical way. Tyler Cowen helpfully explains why.
Meanwhile, Reason Foundation economist Shikha Dalmia has a good op-ed in the NY Post that I think more or less correctly captures the fiscal politics of the proposed cap-and-trade bill.
My policy preferences in this area are (1) Wait until we have much better estimates of the externalities of carbon use, which requires better climates models that do not rely on rapidly empirically crumbling assumptions about ocean warming and water vapor. Which is to say, do nothing, for now. (2) Straightforward carbon tax with offsetting reductions in other taxes. (3) Cap and trade plus tax cuts.
I understand the appeal of trying to gin up a market in carbon permits by politically inventing scarcity, but I think it’s sort of insane to think that route isn’t a lot more prone to system-gaming, rent-seeking, and non-compliance from the start compared to a carbon tax. Which is not to say that a carbon tax wouldn’t be gamed and lobbied, too. It would be, just not so badly. We already know how to collect taxes, more or less. Cap and trade, on the other hand, basically requires creating an entire new set of institutions, on dubious scientific grounds, in a context of insufficient information about their optimal design. Which doesn’t seem promising. The real-world political economics of it seems to me less like implementing an excise tax and more like the process of creating a stock exchange in a developing country.
Will Wilkinson 