POOF! The Breakthrough Institute makes carbon tax proceeds disappear!

The Breakthrough Institute recently published the summary of an analysis they did on whether a carbon tax would provide sufficient incentives for the continued and hopefully increased deployment of renewable energy sources. The question is a very important one -- carbon tax proposals are coming out of the woodworks, and some, like former Rep. Bob Inglis (R-S.C.), would like to do away with renewable energy subsidies and replace them with a carbon tax. Breakthrough does a fair job of answering a question, and in their words, making an "apples to apples" comparison. We know that the renewable energy production tax credit is 1.1 to 2.2 cents per kilowatt-hour produced, while carbon tax proposals are couched in terms of $ per ton of CO2 emitted. So they do something useful in asking whether say, a $20 per ton carbon tax would serve the same purpose as a 2.2-cent production tax credit. But in their haste to throw cold water on the idea that a carbon tax can replace renewable energy production tax subsidies, they make a terrible error: they argue that a "$20 per ton carbon tax would offer just one-half to one-fifth the incentive of today's zero carbon subsidies — but at nearly 10 times the cost." Their conclusion: subsidizing imposes less cost than a carbon tax.

Huh? My libertarian friends (yes, plural) are wondering how that can be. It is because Breakthrough takes the cost of a carbon tax and the cost of a subsidy as expenditures of equal importance. It is not. In the case of subsidies, it is the U.S. government spending the money, and in the case of the carbon tax, it is consumers that are largely spending the money. I am most assuredly not on Mitt Romney's government-is-the-problem bandwagon, but it is not controversial that government spends its dollars less efficiently than private parties do. There is, beyond any partisan chicanery, a cost to government spending money. The marginal cost of public funds heuristically speaking measures the cost of government raising money to do something. It varies across countries, and across purposes, but it is greater than one. Sometimes we want government to do things, and tolerate its inefficient delivery vehicle, and sometimes we must have government provide things such as police, national defense, schooling, and environmental protection. But if we want a wind power plant to be built, it will cost more for government to raise the money and build it than a private party. Ask Krugman.

But Breakthrough commits a much more obvious and telling error: it fails to account for the net gain of the carbon tax proceeds. Yes, carbon taxes cost consumers money, but they act as if the carbon tax proceeds have no welfare consequences. Under revenue recycling proposals, this is money fed back to households, consumers, corporations, and we could debate about the best place to recycle the revenues. But you can't pretend that has no gain.

On the flipside, subsidizing renewable energy has gains not explicitly recognized by the Breakthrough analysis (that I can tell). It is the money pumped into the economy through firms that operate renewable energy sources eligible for the production tax credit (by the way, did you know that "refined coal" is a qualifying renewable energy source? Look it up -- 26 U.S.C. s. 45(c)(7)). Again, you don't have to be Paul Ryan frothing to make the case that expenditure of government money is not as good as putting money in the hands of energy consumers, which revenue recycling would do.

So if the question is, "could we replace the renewable energy production tax credit with a carbon tax and still have the same amount of renewable energy production?" then Breakthrough convincingly answer the question in the negative. But it is an entirely different matter to say that carbon taxes are not as "effective" in promoting renewable energy than subsidies.