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It's possible to be both right and wrong

By Saul Eslake - posted Monday, 25 July 2011

Like almost 80% of Australian economists (according to a survey of 573 of them, conducted by the Economics Society of Australia, the results of which were released last week), I think that 'price-based mechanisms – taxes, subsidies or an emissions trading scheme – as opposed to direct action, are the more appropriate mechanisms for cutting greenhouse gas emissions'.

As a result, and for what it's worth, I support the Gillard Government's proposal to 'put a price on carbon', initially in the form of a tax, and subsequently in the form of an emissions trading system – even though I will be personally worse off financially as a result of it, and even though only 39% of my fellow citizens support it (according to the Nielsen poll published in Monday's Age and Sydney Morning Herald).

Putting a price on carbon is, admittedly, a 'harder sell' since the failure of the Copenhagen talks in December 2009 to agree on a global emissions trading system. It was never likely that China, which is now the world's largest source of greenhouse gas emissions, would embrace a market-based approach. They don't do monetary policy primarily through market mechanisms (such as interest rates), so it's unrealistic to think they would do carbon abatement primarily through putting a price on carbon. Nor does it seem likely that the United States will be putting a price on carbon emissions any time soon. That may be an illustration of how, as Winston Churchill once said, the Americans can be trusted to do 'the right thing', after they've tried everything else.


However, if the majority of scientists are right, as I believe they are, the largest greenhouse gas emitters will eventually embrace the need to reduce greenhouse gas emissions. And when they do, they're likely to insist that the rest of the world moves along with them. Australia, as one of the most carbon-intensive economies in the world (reflecting the fact that access to relatively cheap fossil fuels has been one of our major sources of comparative advantage), would face a larger adjustment task than most. We would inevitably face more of the kind of taxes that Qantas is now going to incur when it flies to Europe, if we don't have meaningful carbon abatement measures of our own. Our adjustment task will ultimately be easier if we start earlier and move more gradually – which is what the Government's proposals seek to do.

And because we are moving ahead of much of the rest of the world, and in particular ahead of most of our major export competitors, it is appropriate that our 'emissions-intensive trade-exposed industries' (such as aluminium, steel and cement) are shielded to a large extent from cost increases that their rivals in other countries do not, for now, have to face. Again, this is what the Government's proposals seek to do.

'Putting a price on carbon' will result in significant structural change in the Australian economy. But so did the program of cutting tariffs. And so will the mining boom. 'Putting a price on carbon' will add to inflation. But so did the introduction of the GST, and by a lot more than 'putting a price on carbon' will.

However, there are many other aspects of the Government's proposals about which I am far more dubious.

First, the Government seems to lack the confidence in the efficacy of 'putting a price on carbon' to deliver the necessary changes in industry and household behaviour that its rhetoric implies. Not only has the Government not used the opportunity presented by 'putting a price on carbon' to wind back some of the pre-existing 'direct action' measures put in place by previous Governments over the past decade or so; but it is also using a fair chunk of the revenue raised by the proposed carbon tax to fund even more 'direct action'.

This is despite the fact that both the Productivity Commission, and my colleagues at the Grattan Institute, have presented clear evidence that these 'direct action' measures consume bucketfuls of cash to deliver spoonfuls of carbon abatement. Worse, while the Government has provided for the Productivity Commission to review the efficacy of the $9.2 billion of assistance to industry under its proposals, it has pointedly excluded the Commission from doing the same with the more than $13 billion to be 'invested' in 'clean energy projects'. This has the Greens' fingerprints all over it. The Greens were opposed to the provision of assistance to industry, and they know the Productivity Commission will recommend against continuing it, so the Commission will be given the opportunity to do so; but they also know that the Commission would recommend against the 'picking winners' programs which the Greens favour, so the Commission will be kept well away from them.


Second, the compensation package for households is flawed. I didn't support the 'over-compensation' of pensioners and other low-income earners by the Coalition when they introduced the GST; and I don't support it by Labor in 'putting a price on carbon'. There is some truth in Tony Abbott's assertion that this is 'income redistribution disguised as environmental policy'. It is just ludicrous that the biggest winners out of the whole package are senior citizens earning investment income of $80,000 per annum – that is, people who have somewhere between $1.5 and $2 million of income-generating assets in addition to their family home – while a single-income family with one child earning $65,000 is a net loser.

More generally, the Government's tweaking of the personal income tax scales runs counter to what has been a fundamental principle of tax reform for more than 25 years – that good tax reform is about broadening the base and lowering the rates of tax. The Government's proposals do the opposite – they narrow the personal income tax (by raising the tax-free threshold) and pay for it by increasing marginal tax rates. Supposedly, this is to ensure that people earning over $80,000 per annum don't derive any benefit from the increase in the tax-free threshold, whilst not leaving anyone earning less than $80,000 worse off. But that's only true for people whose income is unchanged. While the Government's changes do reduce the effective marginal tax rates for those entering low-paid jobs, they increase the marginal rates for those entering middle-income jobs – most obviously women in white-collar or professional jobs after a period of caring for children. And it's marginal rates of income tax, not average ones, that influence incentives and behaviour.

Third, the Government's proposals are not revenue neutral as promised. The Government has gone to inordinate lengths to push expenditures which logically should fall in the 2012-13 financial year back into 2011-12, in order to preserve its politically (but not economically) important goal of ensuring a surplus by 2012-13, at the expense of blowing the deficit for 2011-12 out by another $2.7 billion. This more than offsets the $1.5 billion to be raised in 2011-12 by the Government's 'flood levy' on taxpayers earning more than $50,000, which the Government insisted was an absolute imperative of 'good economic management – an insistence which is now much more obviously the nonsense which it was at the time.

The Government will no doubt say that all of these things reflect compromises that 'had to be made' in order to get the whole package of proposals through the Parliament. It's not for me to say that isn't so. But nor am I going to say that these compromises represent 'good policy'. They don't.

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About the Author

Saul Eslake is a Vice-Chancellor’s Fellow at the University of Tasmania.

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