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Behavioural Economics and Public Support for Carbon Pricing: A Revenue Recycling Scheme to Address the Political Economy of Carbon Taxation

Published online by Cambridge University Press:  27 August 2019

Goran DOMINIONI Open the ORCID record for Goran DOMINIONI [Opens in a new window]  and
Dirk HEINE
Goran DOMINIONI*
Affiliation:
At the time when this article was written, Goran Dominioni was working as Consultant at the Macroeconomics, Trade and Investment Global Practice, World Bank. The article carries the name of the authors and should be cited accordingly. The findings, interpretations, and conclusions expressed in this article are entirely those of the authors. They do not necessarily represent the views of the International Bank for Reconstruction and Development/World Bank and its affiliated organisations, or those of the Executive Directors of the World Bank or the governments they represent.
Dirk HEINE
Affiliation:
Dirk Heine is an Economist at the Macroeconomics, Trade and Investment Global Practice, World Bank Group, and an Associate Fellow at the Hoover Chair for Economic and Social Ethics, Université catholique de Louvain.
*
Corresponding author: gdominioni@worldbank.org.
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Abstract

Even though carbon pricing is widely accepted as the most efficient policy instrument for climate change mitigation, it has been severely held back by a lack of public support. Building on research in behavioural sciences, we propose a revenue recycling scheme that aims to foster public support for carbon taxes. The scheme has two main strengths: (i) it may allow the implementatin of carbon taxes with higher tax rates than those currently prevailing in most jurisdictions; (ii) it relies on a number of accessible technologies, and thus it can be implemented in a wide variety of settings, both in urban and rural areas of developing and developed countries.

Type
Articles
Information
European Journal of Risk Regulation , Volume 10 , Issue 3: Symposium on Institutional Innovations in the Enforcement of EU Law and Policies , September 2019 , pp. 554 - 570
Copyright
© Cambridge University Press 2019 

I. Introduction

The ambitious goals set in the Paris Agreement to keep the increase in global average temperature well below 2°C require massive reductions in carbon emissions in the coming decades.Footnote 1 There is broad agreement among scholars and policy-makers that an effective and efficient carbon emissions mitigation strategy includes carbon pricing.Footnote 2 A recent joint statement by 27 Nobel Laureate economists finds that “a carbon tax offers the most cost-effective lever to reduce carbon emissions at the scale and speed that is necessary”.Footnote 3 But despite this increasing consensus among economists and despite the urgency of climate action, large parts of global carbon emissions remain unpriced, and the vast majority of carbon pricing schemes fall short of imposing carbon prices that conform to the levels required to deliver on the Paris Agreement.Footnote 4

While various factors account for the too low prices applied to carbon emissions, a key element is the low level of public support for carbon pricing. A growing literature in economics, behavioural and political sciences studies the causes of this low level of support and provides policy options to address it.Footnote 5 A large part of this research focuses on support for carbon taxes. These fiscal instruments are among the least popular but most efficient climate-related policies and are key in a least-cost strategy for mitigating carbon emissions in various sectors of the economy, also in comparison with non-tax forms of carbon pricing.Footnote 6

This article contributes to the research on how to address too low levels of public support for carbon taxation in two ways. First, we propose a behaviourally informed revenue recycling scheme that may allow the implementation of carbon tax reforms with ambitious carbon price levels. Scholars and policymakers propose increasing public acceptance for carbon taxes by starting with low tax rates, to be gradually increased over time.Footnote 7 This practice is, however, detrimental for the environment and probably also for social welfare. The scheme described below aims to obviate these problems by allowing policymakers to start pricing carbon at sufficiently high rates from the outset. Various technological solutions can support the implementation of this scheme, making it applicable both in urban and rural areas of developed and developing countries. The second contribution of this article is to identify strategies to increase public support for tax shifts. Although tax shifts can deliver a double-dividend (ie a simultaneous improvement of both the environment and the economy), they are among the least preferred options in the eyes of the public,Footnote 8 and among the least used forms of carbon revenues globally.Footnote 9 The strategies described in this article may help facilitate the use of tax shifts for climate change policy.

The remainder of this article is structured as follows: Section II briefly illustrates the need to improve public support for carbon taxes. Section III discusses key factors that hinder public support for carbon taxation. Section IV debates the pros and cons of phasing-in carbon taxes in a gradual manner. Building on the analysis proposed in Section III, Section V illustrates an innovative, behaviourally informed policy design that addresses low public support for carbon taxes, potentially enabling the implementation of carbon taxes with a Paris-compatible tax rate. This section discusses also how the scheme could be implemented via a number of easily available technologies, making it feasible in both developed and developing countries. Section VI illustrates a complementary, behavioural informed strategy to increase the acceptability of tax-shifts. Section VII concludes.

II. The need to increase public support for carbon taxes

Even though the number of jurisdictions that have implemented carbon pricing schemes has more than tripled in the last 10 years, reaching 57 in 2019, and even though 96 countries plan to use carbon pricing in their Nationally Determined Contributions under the Paris Agreement, to date only about than 20% of global GHG emissions are covered by carbon pricing.Footnote 10 Also, fewer than 10 jurisdictions apply a nominal carbon price above US$ 35 per ton of carbon.Footnote 11 Even in jurisdictions that implemented carbon pricing above this level, exemptions may lower the effective carbon price applied.Footnote 12

These price levels are far too low to deliver on the Paris Agreement, and are likely to be significantly below the social cost of carbon. Paris-compatible carbon prices are at least US$ 40–80 per tonne of carbon by 2020, according to the High-Level Commission on Carbon Prices.Footnote 13 Estimates of the social cost of carbon vary.Footnote 14 US government agencies’ estimates of the social cost of carbon emissions in 2020 range between US$ 12 and US$ 62 per tonne of carbon, depending on the applied discount rate (5% or 2.5% respectively).Footnote 15 These estimates have been criticised based on arguments that tax rates should be set in line with the discounting of risks in the private market,Footnote 16 but also in that case, the discount rate is likely close to 2.5%,Footnote 17 and the efficient price level is therefore quite high. These estimates of efficient carbon taxes become even higher if low-probability high-cost climate events are added to the analysis,Footnote 18 or when consideration is given to the existence of tipping points,Footnote 19 the irreversibility of climate damages,Footnote 20 and the concentration of those damages on the poorest.Footnote 21 As a result of all these considerations, the efficient tax rate to be achieved is very likely to be significantly higher than prices applied in most jurisdictions.

Multiple factors can account for this suboptimal pricing of carbon emissions. For instance, the public-good nature of climate change can lead countries to underinvest in mitigation policies. But even where political ambition is high, opposition from vested interests and the general public can hinder sufficiently ambitious climate action. In this article, we will briefly touch upon the role of vested interests, and focus mostly on the low level of public support for carbon pricing.

Public opposition to carbon pricing is surprising, because carefully designed carbon pricing schemes can favour large segments of current and future generations, as they mitigate climate change and generate various economic co-benefits.Footnote 22 For instance, they improve air quality,Footnote 23 firm level productivity;Footnote 24 the ability to generate domestic resources in countries with a large informal sector (ie grey economy);Footnote 25 and reduce traffic accidents, if applied to the road transport sector.Footnote 26 Net benefits can also derive from the careful use of the revenues generated by the carbon tax, for instance, when carbon tax revenues are used to reduce the rates of pre-existing taxes,Footnote 27 such as in British Columbia where such a policy led to net increases in economic growth,Footnote 28 and decreases in income inequalityFootnote 29 and rural-urban divides.Footnote 30

Carbon pricing can be implemented either via taxation or emission trading schemes (ETS). In this article, we focus on carbon taxes because they are less used in policy, and more opposed by the public compared to many other instruments for climate change mitigation.Footnote 31 Also, carbon taxes and ETS are not perfect substitutes. The price signal under a carbon tax is more stable than under an ETS, and therefore the abatement incentives under the two measures can differ, even if they apply the same long-term average price to carbon emissions. Transaction costs make emissions trading a less appealing policy measure than carbon taxation for sectors of the economy where emissions are released by a large number of small entities.Footnote 32 Thus, even in presence of possible carbon pricing alternatives, it is valuable to address specific problems faced by carbon taxation.

III. Factors hindering public support for carbon taxes

Various factors account for the low levels of support for carbon taxes among the public, which are reviewed below.Footnote 33

Perceived distributional impacts.Footnote 34 Depending on the structure of the instrument and the conditions prevailing in each jurisdiction, carbon taxes can be either progressive or regressive.Footnote 35 People tend to support non-regressive taxes,Footnote 36 and carbon taxes are often perceived as regressive.Footnote 37 Research indicates that people sometimes perceive carbon taxes as regressive, even when they had a progressive impact.Footnote 38 The public may fear the potential negative impacts of carbon taxes on the competitiveness of national industries and employment. These effects are possible, but instruments exist to address them.Footnote 39

Discounting benefits more than costs. Most benefits from carbon taxes, such as reduced emissions, cleaner air, and reduced traffic, occur in the medium to long term. Conversely, energy prices increase rapidly after the tax is introduced. Therefore, individuals will discount a larger proportion of the benefits than the costs of carbon tax reforms.Footnote 40 This relatively larger discounting of future benefits can result in a significant reduction of support for carbon pricing measures.

This effect can be particularly severe among the more indigent segments of the population and in countries with higher poverty rates.Footnote 41 Discount rates tend to be higher among the poor.Footnote 42 Liquidity constraints, reduced access to the formal credit market, and higher stress leads individuals that live in poverty to be more impatient than the more wealthy.Footnote 43 Consistently, empirical studies find higher discount rates in developing countries.Footnote 44 To the extent that differences in discount rates between income groups imply greater impatience over benefits from carbon taxes in poorer countries, passing carbon tax reforms may be more problematic in these contexts than in developed economies.

Scepticism over benefits. Many individuals and companies perceive carbon taxes as revenue-generating measures and ignore their environmental effects.Footnote 45 Also, many are sceptical of the environmental effectiveness of carbon taxes,Footnote 46 despite the evidence that points in the opposite direction.Footnote 47 Relatedly, carbon taxes are often perceived as being less environmentally efficacious than alternative measures such as subsidies for public transport or regulations.Footnote 48

Perceived personal costs. People may perceive the personal cost of carbon taxes to be too high,Footnote 49 as shown by numerous surveys and experiments conducted across various countries.Footnote 50 The costs of environmental taxes are often more salient (eg energy price increases) than their benefits (eg reduced air pollution), and, therefore, the public might be more attentive towards the costs than towards the benefits of tax reforms.Footnote 51

Measure design. The perceived costs and benefits of carbon taxes also depend on the design of the measure. For instance, people tend to be less sceptical of the environmental effectiveness of carbon taxes when revenues are earmarked to finance green projects.Footnote 52 Research indicates that tax shifts tend to be popular among economists, but are among the least preferred form of revenue use by the public.Footnote 53 Reducing labour or income taxes can increase GDP and welfare. For instance, reducing labour taxes can incentivise the supply of labour. Despite the evidence indicating that – under the right circumstances – tax shifts can deliver an economic dividend, people are often sceptical of the economic benefits of this revenue use. Many see tax shifts as pointless transfers of resources from one place to another and as a diversion from the principle that revenues should be spent where they are raised. People also fail to see the connection between environmental taxation and labour taxation. Thus, large segments of the population may not understand, be aware of, or not believe that well-designed environmental taxes can generate climate and welfare benefits.

Rational ignorance. Rational ignorance is another cause of public disinformation about the benefits of carbon taxes.Footnote 54 The aggregated benefits from carbon pricing can be large, but they are divided among many people. Conversely, the costs of carbon taxes tend to be more concentrated on restricted groups, for instance, the energy-intensive sectors of the economy. This different distribution of benefits and losses in society often implies that the interest of losers to block carbon taxes is stronger than the interest of net beneficiaries.Footnote 55 The smaller group size of losers equally allows them to more effectively organise to have their voice heard in the policy process.Footnote 56 The public belief that interest group are particularly effective in steering the policy agenda may further discourage investments in education about carbon taxes.

Worldviews. Worldviews are socially constructed tendencies that influence how people understand reality.Footnote 57 These orientations have been shown to affect the public acceptance of carbon taxes,Footnote 58 and of experts’ views on climate change.Footnote 59

Trust in the government. Citizens may oppose carbon taxes also because they have little trust in the government.Footnote 60 Citizens may fear that they will not benefit from the use of revenues, for instance, because an inefficient public administration may absorb or waste them.Footnote 61

Risk aversion. When jointly considered, this literature indicates that, for many individuals, the payoffs of carbon taxes seem uncertain. This uncertainty may trigger opposition among risk-averse individuals.Footnote 62 Risk aversion is, therefore, another limit to carbon tax reforms. Research in economics and psychology suggests that risk aversion can be a stronger limit to carbon tax reforms in developing countries than in developed ones.Footnote 63 Relative and absolute risk aversion may both fall in the income or wealth of individuals.Footnote 64 Also, liquidity constraints and negative emotional states are often correlated with, and increase, risk aversion.Footnote 65

IV. Phasing-in carbon taxes as a policy response

Academics and policy-makers argue that phasing-in carbon pricing can help increase public support for it,Footnote 66 and many jurisdictions introduce carbon pricing gradually.Footnote 67 Below we discuss the pros and cons of this practice.

1. The case for gradual phase-in of carbon taxes

It is widely believed that starting with low tax rates helps in obtaining public support for carbon pricing.Footnote 68 This belief can be grounded in the following considerations.

First, increasing the tax rate slowly and implementing trial periods allows citizens to learn about carbon taxes before major adjustments are made. Research indicates that aversion towards carbon taxes decreases after the introduction of a low-rate carbon tax, as the public learns more about the costs and benefits of the measure.Footnote 69 There is then a case for phasing in carbon taxes with low rates, to trigger this learning process, and only then ramp up the tax rate towards efficient or Paris-compatible levels.

Second, phasing-in carbon taxes gradually can create and reinforce social norms that support environmental taxation. Social norms are rules “governing an individual’s behavior that third parties other than state agents diffusely enforce by means of social sanction”.Footnote 70 Norms emerge when a sufficiently large proportion of individuals endorses an opinion or a behaviour. Introducing an environmental tax may send a signal that society values making polluters pay. To the extent that even a tax rate below the social cost of carbon conveys the message that other members of society support making polluters pay, a gradual phasing-in of environmental taxes may help first develop the pro-environmental values in society which are needed to subsequently scale up the policy without too much public resistance.

Third, introducing a carbon tax with a phase-in period reduces the adjustment cost incurred by polluting entities, which then have fewer reasons to oppose the reform. For instance, even a tax rate below the social cost of carbon may discourage pollution-intensive companies from further investing in polluting capital, while allowing them to carry on the production with existing assets.

Despite these potential benefits, starting with low tax rates has also drawbacks.

2. The case for high upfront tax rates

Starting with low carbon pricing levels can be problematic, regardless of whether the policy aim is social welfare maximisation or reaching a determined mitigation target.

First, when the policy aim is increasing social welfare and the initial tax rate is lower than optimal, subsequent adjustments might need to be more aggressive.Footnote 71 Many proposals reflect this pattern of adjustments. The initial tax rate is set lower than the social cost of carbon and increases between 4–5% in real terms, or is even updated at a higher speed.Footnote 72 A potential problem that arises when the tax rate starts low and increases at a fast pace is that this may incentivise the fossil fuel industry to extract and burn more fossil fuels in the period where the tax rate is still low.Footnote 73 This negative effect could occur when the tax rate increases at a rate that is consistently higher than the interest rate.Footnote 74 Evidence of these inefficiencies is, however, mixed.Footnote 75

Second, real-life experience with carbon taxes show that after the initial introduction of a low carbon price, it is sometimes difficult to follow up with the planned tax rate increases.Footnote 76 Many countries struggle even with keeping the real value of their environmental tax rates stable, for instance by failing to update tax rates for inflation.Footnote 77 Adjusting carbon prices beyond inflation can be even more challenging. A possible solution to this problem is fixing into the law that establishes the carbon tax the trajectory for increasing the tax rate over time.Footnote 78 British Columbia, Canada, France, and Switzerland have implemented this strategy.Footnote 79 While probably helpful, this strategy is not bulletproof, as shown by the UK’s experience with its Carbon Price Floor (CPF).Footnote 80 The CPF was first introduced in 2013, and the intention was to increase it every year until 2020, up to £30 per tonne. In 2014, competitiveness concerns and the will to avoid price increases for consumers led the UK Government to cap the CPF at £18 until 2020. This price freeze was subsequently extended to 2021. Similarly, following the Gilets Jaunes protests in France, the French government announced a change in the scheduled increase in the rate of the French carbon tax. The tax rate was initially projected to increase by 23 percent in 2019, but it is now set at 2018 levels, and it is likely to remain to these levels, at least in the short term.Footnote 81

Third, implementing low tax rates may undermine the incentives of citizens to gather information about the reform, strengthening the hand of interest groups that want to block the reform. Vested interests are better positioned to influence governments’ action when their activity remains far from the eyes of the public. A low carbon tax rate may fail to attract sufficient attention among the public on the environmental tax reform because the public may expect that the personal costs of carbon pricing are lower than those of learning about this policy. As a result, citizens may decide to remain rationally ignorant about the reform, strengthening the action of interest groups that oppose the reform or aim to minimise its impact on their interests, for instance, by lobbying for exemptions.

V. Increasing support via revenue use

Given the drawbacks of starting with low tax rates, this section uses behavioural economics to explore policy strategies that may allow the introduction of a carbon tax directly with the high tax rate needed to fully price the social cost of carbon and/or deliver the Paris Agreement.

1. Antedating cash transfers

Revenues from carbon pricing can: (i) be earmarked for infrastructure, green spending, or development (eg subsidise green innovation); (ii) be used to reduce public debt; (iii) be used to cut more distortive taxes (eg labour and income); or (iv) be distributed to the population via direct transfer schemes. Economically, it is likely that options (ii) or (iii) are best,Footnote 82 but option (iv) may be politically most effective. If option (iv) is used, the political economy can be further improved by distributing revenues to the population via antedated cash transfers, ie transfers made before the tax incidence is felt by the public, possibly on the same day that the measure is implemented, with disbursements made on the basis of projections of revenue streams.Footnote 83

Distributing revenues via targeted cash transfers can address some political economy concern, especially those related to the potentially regressive impact of carbon taxation,Footnote 84 even when this effect is only perceived and does not correspond to reality. Sometimes distributing small fractions of revenues can make carbon pricing progressive. A carbon tax in France could be made progressive if 17 per cent carbon revenues are devoted to low-income households via cash transfers.Footnote 85 Less than 15 per cent of the revenues from a hypothetical US carbon tax would suffice to fully compensate the poorest 20 per cent of the US population.Footnote 86 The IMF estimates that a small fraction of carbon revenues from a hypothetical carbon tax of US$ 35 per ton of carbon in 2030 could compensate the bottom quintile of the population in India.Footnote 87 Compensation via cash transfers could, therefore, help to obtain the support of the underprivileged and of the more affluent segments of the population that have a preference for non-regressive climate policies. This use of revenues is in line with the recent joint statement of 27 Nobel Laureate economists to implement a carbon tax in the US, which by recycling revenues to the public addresses both distributional concerns and fears of increasing the size of the government.Footnote 88 In this section, we argue that antedated cash transfers are likely to address several other factors that reduce public support for carbon taxes.

First, distributing cash before people start feeling the tax incidence could reduce opposition due to risk aversion. Many benefits of carbon pricing can appear to be uncertain for the public. The public may fear that the government may not follow through with any promises of reimbursing citizens for the carbon tax burden via cash transfers, for instance as revenues might instead get lost to corruption, inefficient government administration, or the influence of interest groups. Others may be sceptical of the climate mitigation effects and the co-benefits of carbon pricing. Low general trust in the government further fuels these fears. Expected payoffs from reform become more certain for transfer recipients after the distribution takes place. When the distribution of cash is antedated, payoffs become more certain at an earlier stage than if revenues were disbursed after collection. More certain payoffs will reduce opposition due to risk-aversion.Footnote 89

Second, anticipating compensation can address opposition due to discounting.Footnote 90 Since a more substantial proportion of the benefits than of the costs of environmental taxation are spread out over time, discounting makes carbon tax reforms less appealing to the population. Ex-ante transfers can reverse this pattern. This effect is further amplified if, as it is sometimes the case, delayed financial gains are discounted more than delayed losses.Footnote 91 Also, concrete benefits tend to be discounted less than more abstract ones.Footnote 92 Arguably, a cash transfer is a less abstract gain than the health benefits that may derive from, for instance, earmarking revenues for additional climate-related expenditures.

Third, timing the distribution of compensation payments to coincide with the onset of the environmental tax, ie distributing revenues on the first day the tax is applied, helps to communicate the logic of a fiscal shift, as this practice would highlight the link between the increased fiscal pressure and the distribution of benefits. This policy could, therefore, enable a mixed use of revenues, part of which is destined for cash transfers and the remainder for reducing pre-existing taxes. A mixed use of revenues could ease the political economy of carbon tax reforms, for instance, when it allows reducing payroll taxes or to implement competitiveness policies that could reduce citizens’ fear of the tax impact on the economy.

2. Incentivising popular support for carbon taxes: the role of the endowment effect

The previous section discussed various political economy benefits of antedating cash transfers. Here we discuss the additional benefits that could derive from a specific mode of distributing revenues. Building on literature on the endowment effect, we argue that transfer recipients are likely to support a carbon tax reform more if cash transfers are distributed electronically before the measure is implemented – not simply before the tax incidence is felt – on visible accounts that are frozen until the day of the tax increase. This sequencing could increase the value that citizens attribute to the cash transfer, and thus enhance support for the reform.

A large body of evidence indicates that everything else being equal, individuals tend to attach a higher value to items to which they feel entitled. This phenomenon is referred to as the endowment effect. While competing explanations exist for the endowment effect, the most supported in the literature is loss aversion.Footnote 93

Research on loss aversion highlights that a change in wealth of size “X” is perceived as a less severe event, meaning that the drop in utility is lower, when it is seen as a foregone gain than when the same amount of change is seen as an incurred loss. Whether people see the change in wealth as a loss or as a gain depends on their reference point (eg the status quo), which can be changed by acting on people’s expectations. Increasing the expectation of obtaining something can produce a sense of endowment.Footnote 94 Allocating money ex-ante on visible bank accounts can increase people’s expectation of receiving the cash transfer, and thus increase the value attached to the payment, fostering support for the reform.

Research indicates that other psychological mechanisms could also make people value antedated electronic cash transfers more highly. Some authors propose that the endowment effect is due to psychological proximity.Footnote 95 Arguably, compensation recipients may feel closer to the cash transfer when they see it credited to their bank accounts compared to when authorities merely announce compensation. Others suggest that the endowment effect is due to saliency.Footnote 96 The visual display of compensation enhances its saliency and therefore it may also foster a feeling of endowment.

Regardless of which of these mechanisms is at play, once citizens assign a high value to cash transfers, they will give more support to the tax reform. This greater interest in the reform could also incentivise citizens to educate themselves about the costs and benefits of carbon taxation (ie address rational ignorance), with potential spillovers in support of future environmental tax reforms. Also, once a large fraction of citizens supports the carbon tax, it will be more difficult for vested interests to block the reform. Therefore, triggering an endowment effect among compensation recipients can be a crucial factor in successfully implementing carbon tax reforms.

Experience from energy subsidy reforms supports this conclusion, as antedated cash transfers have been used to the past to catalyse public support for these reforms.Footnote 97 Field experiments also support this conclusion. Hossain and ListFootnote 98 show that providing workers with provisional bonuses that can be taken away in case of underperformance can substantially increase effort compared to merely promising rewards where the performance threshold is achieved. Even though the monetary incentives under the two conditions (provisional/promised bonuses) are identical, paying bonuses upfront seems to change the reference point of the workers. This result has been found also with teachers’ performance, measured in terms of students’ achievement, suggesting that the effect of ex-ante payments is common to many domains.Footnote 99 This research indicates that carefully managed upfront cash transfers can be a powerful tool to nudge citizens towards supporting carbon tax reforms.

3. Implementing the scheme

The analysis proposed in the previous section suggests that the use of an anticipated electronic cash transfer may allow ambitious carbon tax reforms to be implemented. This section discusses the possibility of implementing this revenue recycling scheme in developed and developing countries.

In countries where financial inclusion is high, as in most developed countries, implementing the revenue recycling scheme should not present major obstacles. Governments would need to establish agreements with banks operating in their jurisdiction. In countries where the rate of financial inclusion is low, such as in some developing countries,Footnote 100 governments may need to make investments to reach segments of the population targeted by cash transfers, especially when the transfer targets underprivileged households or segments of the population that live in rural areas. Below, we show that technology offers various options to transfer cash electronically, some of which have also been implemented in rural areas of different developing countries. The availability of various options should enable the implementation of the revenue recycling scheme in a wide variety of settings.

Electronic delivery is a common feature of many social cash transfers in developing countries.Footnote 101 There are three main technological solutions to transfer cash electronically:Footnote 102 chip cards; magnetic stripe cards; mobile money.

Chip cards and magnetic stripe cards require recipients to cash compensation at designed pay points after being identified. Identification can occur via PIN or biometric identification systems (eg iris scans) for chip cards. For magnetic stripe cards, identification can occur via PIN or signature. The designed pay points can be of different types, such as ATM; post offices or PoS devices. Implementing the cash transfers via these technological solutions may thus require investing in infrastructures, such as ATMs, to enable the revenue recycling scheme to reach segments of the population that would remain otherwise excluded. For instance, in 2010, the Iranian government expanded the ATM network in various regions of the country to enable a broader coverage of a cash transfer scheme.

Mobile money is an alternative possibility which requires governments to create accounts for recipients at mobile network operators. Each account is connected to a phone number and a PIN. The transfers can be accessed: (i) by providing the PIN to a mobile money agent, meaning a designed private entity that receives a fee for the service; (ii) directly via phone to make transfers to other accounts and buy goods and services.Footnote 103

The three systems perform differently vis-à-vis different selection criteria (eg security, implementation costs, feasibility, etc).Footnote 104 Different countries have adopted different solutions in the past. For instance, in 2008, the Dominican Republic reformed LPG subsidies and introduced electronic cash transfers destined for the least affluent 40 per cent of the population via chip cards.Footnote 105 Magnetic strip cards are regularly used in Brazil to transfer cash to more than 12 million households.Footnote 106 Yet, we believe that an option that is particularly worth exploring is mobile money.

During the last decade, mobile money has grown rapidly, especially in developing countries. Nowadays this electronic cash transfer mode is used in more than 90 countries, a large proportion of which are situated in the African region. In 2016, there were 277 million registered mobile money accounts and over 100 million active users in Sub-Saharan Africa.Footnote 107 In Kenya, registered mobile money accounts were slightly less than 35 million in 2016,Footnote 108 indicating that this technology has the potential to reach large segments of the population (more than one account per adult).Footnote 109 In Ivory Coast, there were 944 registered mobile money accounts per 1,000 adults in 2016.Footnote 110 Recent data from the IMF’s Financial Access Survey (FAS) show that in many African countries mobile money accounts have already outnumbered commercial bank accounts.Footnote 111 Also, these data show the existence of a negative correlation between registered mobile agents and ATMs in Africa, suggesting that mobile money can be a valuable substitute for more traditional electronic cash transfer modes. However, the diffusion of mobile money is far from being homogeneous among African countries. For instance, in Nigeria, only 1% of the adult population was an active user of mobile money in 2016.Footnote 112 In countries where mobile money is not widely used, policymakers should consider whether the conditions exist for the emergence of this technology.

Various experiences testify to the potential of using mobile money for development policy. For instance, since 2011 the NGO GiveDirectly provides cash transfers in Kenya via the mobile operator M-Pesa. Also in Kenya, M-Pesa was used in the program “Post-Election Violence Recovery” to transfer money to about 37,000 individuals.Footnote 113 Similarly, Concern Worldwide put in place a social protection program to address the drought/food crisis that Niger suffered in 2009/2010 using mobile money.Footnote 114 Mobile money was also used by several NGOs to transfer cash after the 2010 earthquake.Footnote 115

There are already examples of institutionalised governmental uses of mobile money to transfer cash to large segments of the population. For instance, the governments of Afghanistan and Pakistan have started using mobile money to pay the salaries and pensions of civil servants.Footnote 116

Taken together, these experiences suggest that, in a growing number of developing countries, mobile money may allow long-term cash transfers to be implemented, targeted to large segments of the population. This technology could also show beneficiaries that transfers are made ahead of carbon tax reforms. As discussed in the previous section, this sequencing could be a powerful tool to address political economy concerns.

More generally, the availability of multiple technical solutions, each of which may better apply in different contexts, suggests that the revenue recycling scheme described above can be replicated in a wide variety of jurisdictions.

VI. Revenue mixes: smart tax-shifts

As discussed above, anticipating the distribution of cash transfers to the day on which carbon taxes are introduced may help communicate to the public the benefits of tax shifts. In this section, we discuss how policymakers could further improve the public acceptability of this revenue use.

The literature on double dividends indicates that tax-shifts are often the most efficient use of revenues and yet they are the least-favoured option among the public. One driver of this mismatch is probably that revenue-recycling is less salient to the public than alternative revenue uses such as direct cash transfers.Footnote 117 A strategy that may help in addressing this problem is to devote revenues to cut existing taxes that are particularly visible to citizens and whose tax liability falls onto the group whose support is sought.

Taxes vary in their saliency.Footnote 118 People are likely to perceive benefits from carbon taxation to be larger if governments cut taxes that are well known to the broad public, such as income taxes. These taxes often yield large revenues. Eliminating taxes that trigger low revenues can, however, reduce the administrative costs of the tax system. Thus, there might be tradeoffs between reducing administrative costs and easing the political economy of carbon taxation.

In a situation of financial distress, carbon taxes can be raised to substitute for the rise in pre-existing taxes. In such a situation, the carbon tax reduces or eliminates the need for raising the other tax; in other words, it reduces the other tax relative to how it would have risen. Economically, such a prevention of a rise in another tax can be the same as the use of a carbon tax for explicitly lowering a pre-existing tax. But politically these situations are not the same at all.

Explicitly reducing an existing tax may help in obtaining public support for carbon pricing compared to using carbon revenues for avoiding a tax increase.Footnote 119 Existing taxes are arguably more salient to citizens than future tax increases, whether already scheduled in the law or simply debated in the political arena. Since households and businesses have direct experience with the burden imposed by existing taxes, reducing them brings a more tangible benefit than avoiding a future increase in the fiscal pressure. Thus, policymakers can improve the political economy of carbon taxes by using their revenues to explicitly cut existing taxes rather than avoiding raising pre-existing taxes.

Evidence indicates that the public is not likely to differentiate between the legal attribution of a tax liability and its economic incidence.Footnote 120 If revenues are used to reduce a tax that was previously payable by employers, the policy will more likely be seen as benefiting the owners of firms rather than benefiting workers. The revenues from environmental tax reforms may become more acceptable if revenues are used to reduce taxes for which the legal liability rests with the group whose support is sought – the economic incidence might be of secondary importance to the tax shift’s political viability.

VII. Conclusions

Carbon pricing is widely recognised as a key policy to deliver global climate change mitigation targets.Footnote 121 Catalysing and maintaining public support for carbon pricing is a decisive factor to implement carbon taxes. Research suggests that phasing-in carbon taxes can help building this support,Footnote 122 and many schemes implemented to date adopt this strategy.Footnote 123 In this article, we argue that phasing-in carbon pricing too gradually is probably detrimental for the climate and for social welfare, and we explore an alternative strategy that may enable to implement ambitious tax rates, compatible with commitments under the Paris Agreement, from the outset of environmental tax reforms.

We propose a behaviourally informed revenue recycling scheme that aims to increase public support for environmental tax reforms. This scheme consists of antedating the distribution of electronic cash transfers into visible accounts before the tax increase is implemented. A number of relatively easily accessible technologies could support the implementation of this scheme. As a result, the scheme is feasible in many rural and urban areas of both developed and developing countries.

This article also discusses strategies to increase public support for tax shifts. This revenue use is popular among economists as it can deliver a double dividend. However, evidence indicates that tax shifts are among the least preferred revenue use options among the public. The strategies suggested in this article may help to implement tax shifts while maintaining public support for carbon pricing.

References

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