CoPS/IMPACT Working Paper Number G-100

Title: Short-Run Effects of A Carbon Tax

Authors: R.A. McDougall


This paper presents estimates of short-run sectoral and economy-wide effects of the introduction of a carbon tax in Australia. The results are derived using an enhanced version of the ORANI multi-sectoral model of the Australian economy.

We simulate the introduction of a carbon tax at a rate of 1991-92 $25 per tonne, designed to achieve the Toronto target of a 20 per cent reduction in carbon dioxide emissions below the 1988 level by 2005. We find that the macroeconomic impact would depend critically on the extent to which price rises flowed through into wage rates. Assuming fixed money wages, real GDP would be decreased by an estimated 0.9 per cent, and employment by 1.2 per cent.

To maintain a given employment level in the face of the carbon tax would require a reduction in the foreign-currency-equivalent wage rate estimated at 2.8 per cent. This would also entail a decrease in the real wage rate (defined with respect to the consumption price deflator) of 2.8 per cent. Government could promote lower wage outcomes by returning the carbon tax revenue to the community through reductions in other taxes.

Enhancements to ORANI used in this simulation include disaggregation of the fossil fuel sector and provision for carbon taxation.

JEL classification: C68, Q53, Q57

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