Recycling Cap-and-Trade Revenues in Ontario: Experts Weigh In

Chris Ragan, EcoFiscal Commissioner Chair

Ontario finalized its cap-and-trade program in June, and will conduct the first auction in July. As a member of the Western Climate Initiative, the province has also signaled its intent to link its system to similar ones operating in Quebec and California. The Climate Change Mitigation and Low-Carbon Economy Act mandates that revenues from Ontario’s auctions go into the Greenhouse Gas Reduction Account to fund a number of diverse programs aimed at reducing greenhouse gas emissions. But experts disagree on how the province can best recycle the cap-and-trade revenue. Before the program was finalized, the Canada EcoFiscal Commission hosted a roundtable of advocates from around the country representing priorities from social inequality to business development. VX News presents an excerpt of the debate with remarks by Chris Ragan, chair of the Canada EcoFiscal Commission; Rick Smith, executive director of the Broadbent Institute; Vicky Sharpe, senior fellow at the International Institute for Sustainable Development; Mike Moffat, chief economist at the Moet Center; and Mark Cameron, executive director of Canadians for Clean Prosperity.

Chris Ragan: We are talking today about how the Ontario government should best recycle its carbon pricing revenues. The Ecofiscal Commission’s latest report, Choose Wisely, reflects what we think governments around Canada need to do after they have created a carbon-pricing policy that is designed primarily to reduce greenhouse gas emissions. They are going to experience the generation of some revenues, and they are going to need to think carefully about the many ways that those revenues can be recycled. 

In our report, we talked about six different options for governments: giving cash transfers straight back to households, reducing personal and corporate income taxes, using the funds to invest in R&D and cleantech, using the funds to invest in critical public infrastructure, reducing public debt, and provide transitional support to intensive industries.

We also talked about several objectives that governments almost certainly have: economic growth; reducing emissions; worrying about the fairness of the carbon-pricing policy on households, and in particular the impact on low-income households; business competitiveness, and what to do to make sure there’s not an undue challenge to business competitiveness and the associated leakage; and how different revenue recycling options may garner different levels of public support. When we wrote the carbon pricing report a year ago called The Way Forward, we were reminded of the importance of recognizing the differences of provinces—different economic structures, different energy mixes, different emissions profiles. That fed in very much to our observation that provinces could very practically act as the carbon pricers.

In Choose Wisely, we were again reminded of how different provinces are. Even though different provinces might take a common framework to help them think through how to recycle the revenues, the different economic and environmental contexts in each province would invariably lead to different choices. 

Rick Smith: Carbon pricing and cap-and-trade revenue need to be viewed within larger context of primary concern to voters, chief amongst which is inequality.Inequality—that gut feeling that prosperity is not being fairly shared in our country—is arguably the dominant theme in our politics at the moment. It’s not people’s imagination: The bottom 50 percent of Canadians only own 6 percent of the country’s wealth. The median wage of Canadians has remained virtually unchanged since the 1980s. 

Our tax code is riddled with loopholes that disproportionately benefit the wealthy, and our business taxes are now virtually at historic lows. Canadian government programs that used to provide the foundation of our country’s social cohesion are threadbare. The amount of money that Canadian governments spend every year as a percent of GDP is lower than at virtually any other time since the World War II. This is relevant to our discussion today because one suggestion for how cap-and-trade revenue should be spent is to offset other taxes that have failed Canadians over the last few decades. My first point is that cap-and-trade revenue should not be used to cut other taxes.

My second point is that carbon revenue should be used to build carbon-reducing infrastructure projects. In this way, the benefit of cap-and-trade revenue can be doubled up. 

In California, only 16 percent of emission reductions are projected to come from cap and trade directly. The rest will come from a combination of public mass transportation growth, electric vehicle uptake, and low-carbon fuel standards. In just one year, Ontario’s contemplated cap-and-trade revenue would pay for the installation of tens of thousands of EV charging stations, incentivizing energy efficiency retrofits for existing buildings, and contribute to significant transit expansion. That would be the  win-win we want in this province.

Mark Cameron: The revenue should be recycled as offsets to other taxes. The best method of achieving greenhouse gas reductions is through the use of carbon pricing. Other methods, such as regulations or subsidies, can achieve reductions, but generally those reductions are more expensive than reductions achieved by using pricing mechanisms. For instance, the Ontario coal closure is estimated to cost about $150 a ton for the reductions that were achieved. It was obviously a great achievement to get Ontario off coal, but it was not without cost.

Generally speaking, price is going to be your best and most efficient mechanism of achieving reductions. But obviously, price imposes a cost on the economy. It creates fairness issues, which Rick has alluded to, because generally carbon costs, as a kind of consumption tax, hit the lower middle class—people who are renting a car, people who are heating their homes, and who are at the edge of affordability for those—the hardest. That has to be addressed in some way.

It also puts a cost on a whole lot of economic activities, which is a drag on economic growth. So, you have to think about growth-enhancing tax cuts to offset the growth-reducing tax imposed by carbon prices. By far the best way of addressing this is to compensate those households that are feeling the greatest effect from carbon pricing, particularly the lower middle class households, and secondly, put the rest of the reductions into growth-enhancing tax cuts, whether that’s corporate tax cuts or personal tax reduction.

Over time, one would expect that carbon prices would increase. Right now, carbon pricing in Ontario is expected to be about $2 billion on a $700 billion or so GDP. Over time, that will increase. 

When carbon prices eventually reach $100 or $150 a ton, and you’re talking about $10 or $15 billion of government revenue, it will be politically and socially unsustainable for all of that revenue to be used on government spending while imposing quite a large increase on the tax burden of the overall economy. Therefore, over time it becomes even more important that revenues are recycled as tax reductions, to keep the percentage of government relative to GDP relatively the same.

Vicky Sharpe: P.J. Partington and I put together a compelling case that a significant portion of carbon pricing revenues should be taken and moved toward supporting investments in low-carbon technologies and companies to accelerate innovation and adoption. The International Energy Agency says that currently, we are underinvested in low-carbon technologies by a factor of about three to meet the international carbon-reduction targets.

We’ve also seen quite powerfully of late that we need to diversify our economy. That isn’t to say we lose being fossil fuel- or commodities-oriented, but it is important that we look to diversify our economy and move Canada up the value chain, and to some degree then, reduce the dependency and impact of volatile commodity markets. If we do that, we will also help counter the investment return risks that we’ve seen, and the stranded assets that have been created.

Greater innovation will produce more products and more services, and that will allow Canada to compete more effectively in the global, multitrillion-dollar low-carbon technology products and services market. This is a massive market. We have a relatively small share of it. We’re a country that is dependent on our export for our GDP, and we can seize more of that through the export of innovative Canadian products. We see a combination of supply push policy with demand pull carbon pricing, and support for broader innovation, as a way of delivering the greatest benefits at the least cost.

When I talk about innovation, I also want to be clear that I’m not just talking about R&D. This is about development, demonstration, and deployment. Until these technologies make it into the market, then we’re not seeing the environmental returns, as well as the economic ones.

Another thing is that people feel overwhelmed and somewhat disempowered. They go, “Yeah, climate change is a problem, but how can I actually have any impact?” Producing low-carbon technologies can provide a solution set for businesses and individuals to be able to take action. This in turn will increase market and societal support for de-carbonization.

Mike Moffat: The analyses in Choosing Wisely and the earlier paper about potential carbon pricing are quite strong when it comes to the carbon costs of the trade-exposed manufacturing sectors: Most manufacturing sectors aren’t particularly carbon-exposed. But it’s important not just to focus on things that are true, but also things that people believe are true. 

The big elephant in the room here is that Ontario shed 300,000 manufacturing jobs over the last decade. There’s real concern in the province that anything that increases input costs for manufacturers (such as the Green Energy Act) is going to be a job-killer and is going to decimate the region. Furthermore, internationally, Ontario’s seen as a bit of a high-cost jurisdiction to begin with for a variety of reasons. Any policy that’s seen as piling onto that is going to make it harder to win manufacturing mandates in areas like automotive assembly. If we want to have sensible policies that reduce emissions, we need to be sensitive to reality.

If people think that these policies are going to kill jobs, they’re going to be non-starters. As such, I would probably place a little bit more priority than the paper does on things like transitional support and on business in general, along with infrastructure that allows companies to get goods and services and people to international markets, since this region is one that’s focused on international trade. I’d place a little less focus on some other areas, including reducing debt. Bond yields are under 3 percent right now. Ontario has bigger concerns when it comes to competitiveness and productivity than it does in reducing debt.

Chris Ragan: In closing, Mark, how well can governments actually finance impact investments? On what kind of scale can we do this?

Mark Cameron: Technology is a crucial part of solving the challenge of climate change, and government has a role to play in supporting technology. But that being said, if carbon pricing is the primary means by which we’re seeking to drive reductions, we should not be trying to figure out what we can do with the pot of carbon-pricing revenue.  We should see it simply as a mechanism to make sure that carbon is priced appropriately and that the price rises over time. 

The more we have calls for using it for infrastructure, using it for transitional support, using it for technology investment, it no longer is being thought of as a mechanism of changing behavior and driving reductions. There are other kinds of policy changes that government should be looking at when it comes to stimulating technological innovation, but I’m not sure that saying, “We have a $2-billion pot of money; therefore, let’s invest $2 billion in technology,” is a smart way of going about it. 

For the Sustainable Development Technology Canada program (SDTC), investing $250 million a year, it was challenging to come up with the right projects at the right stage of development to justify public investment. 

“The Ecofiscal Commission’s latest report, Choose Wisely, reflects what we think governments around Canada need to do after they have created a carbon-pricing policy that is designed primarily to reduce greenhouse gas emissions. “ - Chris Ragan, EcoFiscal Commission Chair