Cap-and-Cashback: Regional Fairness

As regular readers know, we’ve done a bit of cheerleading for the “cap and dividend’ concept—which is also called “Cap-and-Cashback,” since it would hand cash receipts from government-run carbon auctions right back to consumers.  Cap-and-Cashback strikes us as a fundamentally fair climate policy, since it protects low- and middle-income families from the effects of rising energy prices.

Yet some people criticize cap-and-dividend as being unfair, because they think it could benefit some regions of the country at the expense of others. I’ve even seen this issue described as a “fatal flaw” in Cap-and-Cashback.  Strong words, indeed.  The critics don’t seem to have much grasp of the scale of the potential problem; their worries seem nebulous, though strongly (even stridently) expressed.

But from what I can tell, the worries about interstate transfers under about Cap-and-Cashback are vastly overblown:  the potential for “unfair” regional results is minor, and very easy to fix.

In Cap-and-Cashback—sometimes called “The Sky Trust“—the government would auction off a limited number of carbon permits each year to major emitters, and then give auction proceeds back to citizens as an equal per-capita rebate; everyone gets an equal share.  Because the number of permits sold declines over time, emissions go down—and energy prices go up.  But the “cashback” helps insulate ordinary families from the effects of rising prices.  In fact, a number of respected economists believe that the majority of US residents would be better off financially under Cap-and-Cashback than they are today.

But in theory, a Cap-and-Cashback system could be a bigger boon to consumers in some parts of the country than in others.  The West Coast states, for example, get much of their electricity from low-carbon power sources:  hydropower dams, nuclear plants, natural gas-fired power plants, and even solar or wind generators.  But the Midwest and South get most of their power from dirty, carbon-spewing coal power plants.  As a result, putting a price on carbon emissions will likely drive up power prices more in the Midwest and South than in the West.  If there’s an equal per-capita dividend—the same dividend for everyone in the country—then low-carbon parts of the country could get more money from the “dividend” than they pay in higher energy prices, while high-carbon parts of the country will get less than they pay.

Now, if you focus narrowly on electricity, this can seem like a potent issue.  But in a broader cap-and-trade system—covering not just electricity but also emissions from homes, vehicles, office buildings and industry—just how real is the problem of regional fairness?

Dallas Burtraw and colleagues from Resources for the Future tried to answer the question.  They examined a number of different climate policies, including a form of Cap-and-Cashback, for regional and equity impacts.  And they found that, once you consider all emissions sources, and not just electricity, the regional variations in emissions within the US are minor.  Take a look at the chart to the right:  the height of the vertical bars represents carbon emissions by region, and the horizontal line represents the national average for carbon emissions.  All across the country, the height of the bar is pretty close to the horizontal line; the regional disparities are minor.

By RFF’s reckoning, the “outliers” (such as they are) include California-Nevada and New York on the low side; those states would get a modest net inflow of money from Cap-and-Cashback.  On the high side, the only outliers are the Plains states, which get a bit less than they pay. But even those variations are pretty small potatoes. Most regions are close to the national average, and even the Plains states get the large majority of their money back from a Cap-and-Cashback program.  What’s clear from RFF’s work is that the regional fairness issues are tiny, compared with the economic equity issues:  states might stand to gain or lose a bit from various forms of climate policy, but low-income families will lose BIG if climate policy doesn’t have built-in protections for fairness.

A second analysis by students at Middlebury College (pdf lnk) used data provided by UMass researchers Jim Boyce and Matthew Riddle to look at the regional impacts of Cap-and-Cashback.  (See Boyce and Riddle’s original paper here.)  The Middlebury students only broke the country into four regions, as opposed to RFF’s eleven; but, like RFF, they found that Cap-and-Cashback would shift a bit of money from the Midwest to the West. However, even with a fairly high carbon price, they found that Cap-and-Cashback only shifts about $64 per person, per year, from the Midwest to other parts of the country.  That’s about a penny for every $7 in GDP:  we’re not exactly talking big bucks here.  Moreover, the Midwest’s “cashback” would cover about 90 percent of the rising cost of energy for that region. And it would more than cover the additional costs incurred by Midwesterners with low and moderate incomes.

Lastly, there’s this analysis (pdf link) by the Oak Ridge National Laboratory, looking only at energy expenditures for low income households.  It turns out that the regions with the highest emissions for electricity are not the same as the regions with the highest emissions for gasoline. That’s a key point. And more generally, regional emissions from one kind of energy consumption—say, electricity for air conditioning—don’t necessarily match up with emissions from other kinds—say, home heating oil.  Because different forms of energy use aren’t closely correlated, regional variations in total emissions tend to be smoothed out.

The regional impacts of Cap-and-Cashback are even more modest when you consider these facts:

1. Federal taxation and spending policies already result in massive interstate transfers of wealth. As of 2005, New Mexico and Mississippi got about $2 in federal spending for every dollar their residents paid in federal taxes.  By contrast, California only got 80 cents per dollar of federal taxes; New York got 82 cents.   Here’s a chart that shows how skewed federal spending is: it’s a much more distorted regional picture, involving much more money, than you find with Cap-and-Cashback.
   Also notice in the map below that many of the states that might gain a little bit from Cap-and-Cashback (the West Coast and northeast) are the very states that are currently net losers in net federal taxes and transfers. In the map, red states get more than they pay; blue states pay more than they get; and purple states (e.g., Texas) are pretty close to breaking even.  California, Nevada, and New York—the three outliers in the RFF study—are all deep blue, meaning that they pay much more in taxes than they receive in federal spending. The Plains states are mostly red or reddish purple, meaning that they’re net winners under the existing system.  So rather than creating a regional inequity, Cap-and-Cashback actually helps rectify an existing inequity in federal spending.

   

2. Also note that there are good reasons why New York and California, in particular, win out under Cap-and-Cashback:  they are states where carbon emissions are low.  Statistics for the state of New York are strongly influenced by New York City—where residents drive less, on average, and use less energy to heat their homes than they would in suburban dwellings.  (See here for more on the climate benefits of city living.) California emits less carbon because of its temperate climate, because its residents use less gas than national average (it’s true!!), and because of the state’s aggressive climate policies. In essence, then, Cash and Cashback gives modest incentives for exactly the sorts of things we want more of: compact communities, energy efficiency, and clean energy. In fact, that’s the whole point of carbon pricing: to give incentives for the sorts of things that reduce carbon emissions.
3. A Cap-and-Cashback policy won’t exist in a vaccuum.  Electricity prices, fuel prices, wages, incomes, housing prices, and so forth already vary significantly from region to region within the US. Flows of capital and goods across state lines are vast, complicated, and unpredictable.  In context, the modest regional price differences or interstate flows of money resulting from Cap and Cashback are basically irrelevant.

In short—and based on my reading of the available evidence—the potential for interstate transfers under Cap-and-Cashback is minimal.  And to the extent it’s a real problem, it’s overwhelmed by much larger issues with the interstate transfer of tax money, and by the more pressing concerns about the financial impacts of climate policy on low- and middle-income households.

Still, if policymakers are worried that it’s a serious problem, there’s an incredibly simple solution:  reserve a small slice of the money from carbon auctions to address regional inequities. It probably wouldn’t need to be much money at all: targeted efficiency and renewable energy investments focused on states with high carbon costs would do the trick quite nicely, by boosting local economies and cutting energy and carbon costs at the same time. Problem solved.

The next time somebody wants to pipe up in a public forum about a “fatal flaw” in Cap-and-Cashback, it’d be nice if they actually, y’know, did some homework.  The only way that regional inequities could be a “fatal flaw” is if it becomes a talking point. And the only way that it will become a talking point is if the people repeat it, without taking the time to figure out whether the problem is real.