Carbon Taxation if Liquefied Coal will (not) Substitute Oil and Gas

Mr Florian Habermacher, Inst. of Intl. and Applied Econ. Research, Uni. of St.Gallen

Current and conceivable near-term climate protection measures are regionally constrained. We analyse leakage effects of unilateral climate policies, separately for major fossil fuels. In a business-as-usual scenario without future technological changes, unilateral oil (or gas) consumption reductions through climate protection measures are subject to very large leakage effects over the long run: because these fuels are strongly exhaustible, our dynamic fuel-market model shows that demand in the part of the world without stringent climate policies will offset a large fraction of domestic emission reductions in the medium-run notably because the lower domestic consumption reduces the fuel prices on the global markets. This is different for coal, which is much more abundant even in the medium-term future. Because coal reserves are so large, simulations show that medium-term leakage rates are low for domestic coal reductions, as these reductions have a comparatively small effect on the coal prices in other parts of the world. In this scenario, a unilateral carbon tax on coal emissions should correspond approximately to the domestic willingness to pay for global emission reductions, but the tax should be much lower for emissions from oil or gas, because a large fraction of emission reductions from lowering the consumption of these fuels will only be shifted abroad.

This is reversed if synthetic liquid and gaseous fuels derived from the abundant coal will replace crude oil and natural gas in future. In this case, the optimal carbon tax on emissions from non-solid fuels should be much larger than the emission tax for coal, already today: current, domestic liquid fuel savings imply, in this scenario, less of the very emission intensive, global synthetic fuel production in the future. This leads to reductions of medium-run global carbon emissions that even exceed the original domestic emission savings, making oil (and gas) taxes especially efficient and desirable.

Numerical simulations show that an optimal regional carbon tax on oil emissions should be half of the tax on coal emissions in a business-as-usual scenario without liquefaction in the future; if coal liquefaction will replace crude oil as reserves deplete, the optimal carbon tax on oil would be twice the optimal rate for coal. This questions the general paradigm of a homogenous carbon price. It further shows how important it is to acquire more reliable projections on medium-term developments on the fuel supply markets, notably concerning prospects for wide-spread deployment of coal liquefaction processes in the medium-term.

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