I was recently asked by the National Journal to comment on what I thought was a desirable path for tax reform, if one could wish away political constraints that normally handcuff politicians.   My answer was, of course, to tax energy, particularly carbon emissions, and use the revenue to reduce other taxes.  As I and many others have noted often in the past, taxes on oil or gasoline hit many birds with one stone.

Discussion of energy taxes has always been political suicide. But here are several twists that could potentially increase the ability of the electorate to swallow them politically:

1) The energy taxes would not go into effect until the economy fully recovers from the current recession, thereby avoiding an abortion of the recovery. But the plan would be announced in the near future (thereby sending desirable allocational signals to firms building power plants or pursuing renewable energy research).

2) Such measures could be on stand-by, to be enacted in the event of a major unfortunate geopolitical setback in the Middle East or a tragic terrorist event, which would galvanize public opinion to do something sensible for the first time about the extent of US dependence on oil imports.

3) A tax on, e.g, gasoline could be designed to put a floor under the current price. The status quo always generates less political resistance than a tax that raises the price.

4) The revenue from the first penny per gallon could be earmarked to fund the deficit in social security benefits of those retiring in 2027, for example. They were born in 1962, and know who they are. The revenue from the second penny could be used to finance the benefits of those retiring in 2028, and so on. (Numbers are illustrative. I haven’t done the actual calculations.) The result would be to create a constituency for keeping the tax in place, namely those whose retirement benefits are funded with the proceeds.

Politicians are often tempted to think that a policy to help one goal, say air quality, must also help lots of other goals, say economic growth.  Economists are more likely to presume tradeoffs, and to use the principle of targets and instruments.  That principle says that you cannot expect to hit more than one bird with one stone, except by coincidence.

At the American Economic Association meetings in San Francisco, January 3, I was on a panel titled “Energy and the Environment: Policy Advice for the New Administration” (along with some real energy experts; I am a relative latecomer to the area).  Within the framework of targets and instruments, I proposed a matrix such as the one that appears below. (more…)