Analysis of the Economic Implications of a Carbon Tax

“Why might South Africa consider a carbon tax? The purpose would be to reduce greenhouse gas (GHG) emissions. A carbon tax would achieve this through two broad effects – a demand effect, reducing energy demand due to higher prices, and a substitution effect, with switching from more to less carbon-intensive fuels. There are other ways of achieving this end, but a carbon tax is a highly effective means of doing so – if experience of actual taxes in other countries and modelling of potential taxes in South Africa is any guide. The classic
argument advanced by many economists against taxes is that they are distortionary. However, as David Pearce has long pointed out, since environmental taxes seek to redress market failures, they do not share the distorting properties of many other taxes. The aim of this paper is to provide an overview of the implications and impact of a carbon tax in the South African context – it aims to serve as an introduction rather than an exhaustive analysis, and therefore does not draw any comparative conclusions on the suitability of a carbon tax by comparison with alternative instruments such as cap and trade systems. Before turning to the specific topic of this paper, a carbon tax, some background is given to broadly on economic instruments and carbon markets. Following this, existing attempts to model the impact of a carbon tax on the South African economy are discussed, followed by a discussion on policy challenges and some existing proposals.”