Tax whatever harms the environment [Letter]

July 16, 2014

Imagine a club that includes people with such diverse public policy opinions as Al Gore and Lindsey Graham, Charles Krauthammer and Paul Krugman, Ralph Nader and Larry Summers. Imagine further that the sole determinant for membership in this club is a belief about how best to achieve the twin goals of environmental protection and funding the public enterprise. There is such a club and it is named for an economist who was born in the 19th century.

The Pigou Club began in 2006 at the instigation of Gregory Mankiw who chaired George W. Bush's Council of Economic Advisors from 2003 to 2005. Mr. Mankiw teaches economics at Harvard University and has written several economic textbooks that are widely used by universities across the planet. He describes the Pigou Club in a Wall Street Journal essay as an "elite group of pundits and policy wonks with the good sense to advocate higher Pigovian taxes."

To understand what a Pigovian tax is, it is first necessary to understand the concept of "external costs." External costs are costs imposed on someone other than the person or enterprise generating them. If, in my production of widgets or consumption of travel services, I contribute inadvertent pollution to the air or water and if this pollution harms someone downwind or downstream, then I have imposed a cost on someone else. That cost can be accounted as health effects, degradation of resources with monetary value or any number of similar effects.

Mr. Pigou's insight was that by imposing a tax on the generator equal to the value of the harm created, one can optimally reduce the production of the thing that is causing harm (often referred to as a "bad"). Such a tax would serve to make the formerly external cost internal to the decision making of the person or enterprise generating the "bad." Economists believe that demand for free goods is infinite and that demand for things that cost something is limited. Making pollution cost something for the person or enterprise generating it should induce decisions that reduce pollution such that the value of the benefit from avoiding more environmental harm just equals the cost of achieving it.

While most economists accept the idea of externalities and most believe that economic gains would result if those externalities could be internalized, this does not count for much in the current political debate about, say, atmospheric carbon or the Chesapeake Bay water quality problem. To understand why, we have to realize that the people generating additional atmospheric carbon and nutrient pollution to the bay are we ourselves. In order to agree to Pigovian taxes, we would have to accept that we are the source of the problem, and this is a difficult thing for people to do. Somehow we convince ourselves that it is somebody else's pollution contribution that is a problem, not ours. In order to get elected, our political leaders venally support us in this belief; economists are easy to ignore.

There are, of course, other problems and questions surrounding the Pigou Club's manifesto. Should the tax be revenue neutral (i.e., should we reduce other taxes by the same amount that the Pigovian tax generates) or should we use it to pay down the debt or to fund Social Security or to restore the environment in some other respect? What is the true cost of the environmental harm done and how do we account any individual's contribution to it?

There are many valid and unsettled questions surrounding Pigovian taxes. Economists busy themselves trying to resolve them. The public at large is oblivious to this, so, to the extent that in a democracy you need the public on your side, it is not clear what is gained by it. Except that in the future, when we do start to seriously apply ourselves to solving pressing environmental problems, we might have a comparison against which other policies can be tested. If, as I expect, those other policies generate higher economic costs than a Pigovian tax, then we will have an estimate for the dollar cost of our propensity to fool ourselves about our responsibility for environmental harm.

Robert Wieland, Trappe

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