The Economic Cost of the Carbon Tax

The choice of the optimal environmental policy is an important question in the current climate change context. While the carbon tax was the preferred policy of economists in the 1970s and 1980s, governments have implemented both quantity-based policies, such as emissions trading schemes, and price-based policies, such as fossil fuel taxes and renewable energy subsidies. 

The implementation of a general carbon tax on greenhouse gas emissions is currently not very common, and a low carbon price is generally retained. However, with the development of the EU Carbon Border Adjustment Mechanism, the Fit for 55 package and the need to achieve a low-carbon economy by 2050 if we are to keep the temperature anomaly below 1.5°C, the issue of carbon taxes is back on the agenda and the old debate of price vs. quantity regulation is reopened.

In this article, we extend the input-output analysis by introducing pass-through mechanisms to define a new cost-push price model that accounts for the cascading price effects of a carbon tax through the supply chain. We can then calculate the government revenue from a carbon tax, the net cost to the economy, and the impact on inflation.

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