Polluter pays?

Green taxes appear to be the favourite solution to the problem of pollution at the moment. Far from criticising the UK Government for introducing them, both the Conservatives and Liberal Democrats are arguing for more green taxes, which is probably the nearest that we can get to political unity, even though politicians have, of course, to claim that they all disagree.

The Liberal Democrats are arguing for an increase in Vehicle Excise Duty for the most polluting cars, a principle that Labour accepted when it announced a £45 hike in the last Budget, although the Liberal Democrats had a figure of £2,000 in mind. The call by the Liberal Democrats for air passenger duty to be reformed so that it applies to the plane and not each individual passenger does not change the fact that the principle of a tax on air travel is common to both parties.

While the Conservatives have not set out their detailed plans, Shadow Chancellor George Osborne has proposed that the share of revenue raised by green taxes should be increased; again a proposal with which the Liberal Democrats agree, despite attacking the Tories for not going far enough. Underneath the political rhetoric there appears to be a great deal of common ground.

Green or naïve?

But are green taxes really the answer? Or are they “green” only in the sense of being naïve? Do green taxes risk the competitiveness of UK industry in a global market?

It will probably come as a surprise for many readers to hear that, despite the introduction of the climate change levy and increases in other green taxes such as landfill tax, there has actually been a decline in the amount collected from such taxes as a percentage of the Government’s total revenue. “Far from rising, Britain’s green taxes overall have fallen – from a peak of 3.6% in 1999 to just 2.9% last year, the lowest since 1989,” says Liberal Democrat MP Chris Huhne.

Many other countries are having similar problems, according to an Organisation for Economic Co-operation and Development (OECD) report, The Political Economy of Environmentally Related Taxes, published in July. The report points out that the OECD member countries have between them some 375 different environmental taxes, plus a further 250 or so environmentally related fees and charges. Even so, they typically raise only 2%-2.5% of total tax revenue, and 90% of this comes from charges on petrol and other fuel. While this cost falls on businesses as well as consumers, it can be argued that consumers are paying a disproportionately high share of the green taxes.

Farms and circuses

One of the problems for governments in imposing green taxes that impact more heavily on businesses is the fear that they will make their own industry uncompetitive. There is therefore a tendency, as the OECD report recognises, to provide exemptions for specific industries. The report says that: “To date, environmentally related taxes have not been identified as causing significant reductions in the competitiveness of any sector. However, this is in part due to the fact that countries applying environmentally related taxes have provided for total or partial exemptions for energy intensive industries.”

A quick look at the OECD database shows that EU countries in particular seem prone to excluding agricultural use of fuels from many of their green taxes, as if pollution caused by tractors was in some way less harmful than that emitted by cars. (There is also a mystifying predilection for exempting vehicles used by travelling circuses!).

The report admits that their calculations using economic models show that some sectors of the economy could be adversely affected if the taxes are not implemented on a global basis, but goes on to say that the effects can be minimised, while also maintaining the undoubted success of pricing incentives such as this on forcing down polluting activity. The issue is considered so important by the EU that a major research effort, called COMETR, has been running for the past two years looking at the competitiveness impact of green taxes. The findings are due to be included in a draft report to ministers in December this year.

One way often suggested to minimise the impact on businesses is to recycle some of the tax raised back into the business sector affected. However, the OECD report’s conclusion is that “revenue recycling would reduce global emission reductions in the sector. In other words, protecting competitiveness through recycling revenues back to the affected sectors is likely to lower the environmental effectiveness of the policy as a whole”. Instead, it recommends maintaining as wide a tax base as possible and then using the money raised to cut other taxes that have a distorting effect on economic decisions, such as social security contributions. This appears to be the route adopted by the UK in the introduction of recent green taxes.

Short-termism?

In the UK, the Confederation of British Industry (CBI) claimed in 2002 that the introduction of the climate change levy might have been responsible for nearly a 1% increase in inflation. Environmental bodies disagree, however. Guy Thompson, the director of Green Alliance, says that “the deregulation lobby is obsessed with the short-term costs of compliance with environmental regulation and wilfully ignores its offsetting benefits. Instead of playing to lowest-common denominator business interests, the Government needs to take a serious look at the role that environmental regulation could play in encouraging clean technologies and building a competitive UK economy in the long term”.

The Green Alliance published its own analysis of the impact of green taxes on competitiveness a year ago. It concluded that the impact of regulation was far less than industry bodies claimed, because “studies by business organisations like the CBI routinely show that employment costs are by far the most significant determinant of investment decisions, although this will, of course, depend upon the industry”.

Indeed, far from adversely affecting competitiveness, the Green Alliance claimed that green taxes could actually improve it. They quote a study into the efficiency of thermal fired power stations after regulation forced them to become more efficient in their use of fuel. Efficiency increased by some 15%-20%, which far outweighed the costs of increased regulation.

The OECD report also highlights the possibility that shifting taxes from labour to pollution, making the former cheaper and the latter more expensive, may have a “double dividend”: pollution is reduced and workers are incentivised to work harder because they keep more of their earnings. This effect is by no means universally accepted, but certainly offers a counterweight to those who argue that green taxes will make us uncompetitive.

A sound framework

What is certainly clear is that more information is needed on the effect of green taxes. The outcome of the COMETR programme will hopefully provide a basis on which to draw some conclusions, so that future governments can make decisions about shifting the tax burden to polluters with more confidence that they understand what the consequences will be.

Mike Truman is editor of Taxation magazine, published by LexisNexis Butterworths.