Taxing Oil: Good Climate Policy?

As part of a new climate initiative, the Obama administration is proposing a $10-per-barrel tax on oil companies. The details remain unclear as to whether the tax would fall on all oil consumption in the United States or just domestically produced oil. Funds from the tax would be earmarked to support greener transportation infrastructure.

From the point of view of climate policy, any attempt to tax fossil energy is welcome, but taken by themselves, the proposed tax rate and coverage don’t add up that well as way to reduce greenhouse gas (GHG) emissions.

1. As shown in the table, the proposed tax does not reflect research on the full environmental costs of oil use.
2. The proposal only applies to oil, while coal and natural gas, which are also important sources of GHG emissions, seem to have been completely ignored.

Table. Estimated Environmental Costs of US Oil Use (2015 US$ per barrel)

Investing in Greener Transportation Infrastructure

Given the social costs of the congestion and pollution associated with our typical transportation choices, a step toward a greener transportation system is welcome. In political circles, the need to tie funding sources to spending is seen as necessary, but economists do not typically find that the correct level of spending on green transportation infrastructure needs to be tied to oil taxation. What matters is finding the most efficient level of spending on green transportation infrastructure.

Taxing US Consumption or Production?

It also matters whether the tax is applied to all US oil consumption or just domestic oil production. An oil consumption tax would reduce US oil consumption and enhance US oil security. The differential effect in discouraging domestic oil production would be less because all sources of US oil consumption would be taxed. In contrast, taxing domestic oil will discourage its production and reduce US oil security. The effect on domestic consumption will be less because imported oil isn't taxed.