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Financing Innovation with a Carbon Tax

President Obama knows we need to change the way we produce and consume energy. His State of the Union address was heavy on the need to fund clean energy research. Just last week he called for a one-third cut in oil imports by 2025, an ambitious but worthwhile goal. There is broad consensus that we are too dependent on foreign oil, and there is considerable support for stepping up development of alternative energy sources such as biofuels and natural gas and for making cars and trucks more fuel efficient. In fact, there has been support for these policies since Richard Nixon was president.

But it’s wishful thinking to believe that we can meet the President’s goals with current technology or even the technology that is likely to emerge on its own over the next 15 years. If we are to reach this goal we need to develop better technology, in particular much better and cheaper batteries and low-cost clean energy sources to power them. Getting this right is critical. There are profound national security and environmental issues as stake. What’s more, there are economic opportunities in being the global leader in energy innovation, although they are probably a lot smaller than the President and clean energy backers would have us believe. If we are serious, Administration officials and lawmakers need to revise assumptions and be ready to consider bold ideas.

For starters, they should start by letting go of the notion that the price of carbon is the definitive factor driving changes in how we produce and consume energy. History and current experience don’t support this assumption. Europeans have long paid defacto carbon taxes in the form of super-high gas taxes that would be completely unacceptable in the United States. But Europeans are not tooling around in amazing new electric and alternative fuel vehicles. They merely drive more fuel efficient internal combustion vehicles. American kids who grew up “going green” are on their way to college, paying $4.00 a gallon for gas and still living in a largely carbon-intensive world.

As ITIF laid out in a recent report, “Inducing Innovation: What Carbon Price Can and Can’t Do,” over the last century market price signals played only a marginal role in most landmark innovations. Automobiles were produced on a massive scale not because the price of hay for horses became expensive but because tinkerers created innovations that enabled people like Ford to build cars. The Wright brothers were not trying to respond to high prices for train tickets on the dunes of North Carolina in 1903, and it was public research investment and military procurement that really boosted aviation technology in the decade or so that followed. The radio wasn’t developed due to changes in the prices of Victrolas but to key advances in the underlying technology. In the more recent past, military needs drove early advances in the first few generations of computers, and public dollars accounted for more than half of the funding for university computer science programs into the 1980s. The list goes on.

The clear lesson is that human curiosity, scientific discovery, and key support from government, usually the military, played a more pivotal role in giving rise to transformational technologies than market responses to price changes. So if the price of carbon isn’t the holy grail for a sound energy and climate policy, why can’t we rely on the factors that put us on wheels, in the air and at keyboards for radical energy transformation?

The answer is we can. The Department of Defense funded many of these key technologies in the past. Today, DOD is funding some and serving as a test-bed for others. It might come as a surprise to many Americans but some of the most impressive research in alternative energy technology is taking place at Defense. But DOD is the largest single consumer of energy on the planet, and its mission is to become more efficient and cleaner. Many of these programs were catalogued and explained in a recent ITIF report, and were also the subject a forum that featured private sector leaders, policy experts, and lawmakers.

But the cleantech revolution won’t be driven by DOD alone—it will require the Department of Energy’s help. In fact, DOE will have to support the lion’s share of the research that will get us breakthrough clean energy innovations To that end, Congress needs to not cut, and in fact, expand support for the groundbreaking work at the Advanced Research Projects Agency – Energy (ARPA-E).

So given the budget crunch, how are we going to afford these new public investments in clean energy innovation? One provocative and bold approach—an innovation carbon price—would dramatically quicken the pace for discovering and developing technologies that could change the world and make us prosperous. We propose a 15-year, economy-wide carbon tax on upstream, combustible, non-feedstock fuel sources of $15 per ton. That is to say, utilities, oil and coal producers would be taxed $15 for each ton of carbon emissions eventually put in the air from their outputs. Such a tax would generate about $90 billion in revenues. We don’t hold any delusions that this price alone would drive a clean energy revolution, though it will help. What would really drive it is the roughly $15 billion per year (17 percent of the tax revenues) that would go toward a new Clean Energy Innovation Trust Fund that would finance and support clean energy innovation initiatives.

The remaining 83 percent in tax revenues would then be recycled back into the economy as growth- and innovation-inducing business tax incentives. Businesses that invest in the building blocks of innovation and growth in the United States—R&D, workforce training, and capital equipment—would receive a much more generous tax incentive than they currently receive. The result would be much more investment in the United States in R&D, workforce training, and new capital equipment, creating jobs and boosting exports and productivity. In contrast to other carbon price proposals or cap-and-trade that would hurt U.S. industrial competitiveness by raising the prices of domestic-made goods and services, our proposal would actually spur U.S. competitiveness.

Enacting this idea won’t be easy: it will likely hit a wall of anti-tax orthodoxy on the right and anti-corporate sentiment on the left. But if reason could trump ideology for a brief moment, both sides would see this proposal could allow us to cut oil imports, reduce carbon emissions, boost U.S. competitiveness and economic growth, increase federal revenues, and spur the expansion of a domestic clean energy industry. If both sides want to be bold and think outside the box in a post-partisan way, we can think of no better place to start than to enact the innovation carbon tax.

Originally posted at Democracy: A Journal of Ideas.


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