An Irish carbon tax of about 8 cent per litre on petrol and diesel is expected to be imposed in December’s budget if a key recommendation of today’s final report by the Commission on Taxation is adopted by the Government. Eco-taxes have a double benefit for the beleaguered administration, in raising revenue while providing the junior coalition partner, the Green Party, with a "core" fig leaf for its declared mission of saving the planet.

The report by the 17-member commission, chaired by former head of the Revenue Commissioners Frank Daly, will be published today.

It contains more than 250 recommendations, including the introduction of a "revenue-neutral" carbon tax; a new property tax; a new higher marginal rate of income tax; new rules for tax exiles; and the abolition of the PRSI earnings ceiling and the incorporation of various tax levies within the existing income tax system.

The commission  recommends a carbon tax on fossil fuels of €20 per tonne and says that this measure will raise €480 million for the exchequer in 2010, rising to an estimated €500 million by 2012.

However, the increase in tax-take would be compensated by reduction in other areas in order to fulfill the commission’s terms of reference that the measure be revenue neutral. The pricing mechanism for the levy is tied to a number of factors, one of which is the price for which carbon is trading on the European Unions Emissions Trading Scheme.

Revenue-neutral?

The terms of reference for the commission were set out by the then Minister for Finance Brian Cowen, in February 2008. So given the tsunami that has hit the economy in the interval, in the absence of a constitutional amendment, take the "revenue neutral" blather with a pinch of salt.

Deutsche Bank economist Frank Zipfel, said in a commentary last Friday, that given politicians’ lack of discipline with respect to spending, it is possible that they will turn their attention to “eco-taxes” in their search for ways and means of consolidating public finances. This raises the question of the productivity and the responsiveness to growth of this source of funding. Experience shows that revenues cannot grow vigorously if ecological goals are taken seriously.

Zipfel says the revenue raised from environmental taxes in Germany has been flat since 2003. Their share of total tax revenue has actually been falling continually since then. At last reading (2008) it only came to 9.7 % and was thus even lower than in 1998 (9.8%), the year before the ecological tax reform came into force. The “environmental” taxes include energy tax (previously called petroleum tax), vehicle tax and electricity tax. From 1999 to 2003 the burden of these taxes was raised in five stages as part of the so-called ecological tax reform (electricity tax was not introduced until 1999). This explains the continual increase in revenue and the increase in the share between 1999 and 2003. Where tax rates have not changed, however, revenues have not increased.

The economist says this data reveals an interesting development in the consumption of (taxed) petroleum products. Since 1998 it has been on the decline overall. Only diesel consumption has risen, but this was outweighed by the decline in petrol and light heating oils. He says it remains unclear how much of the decline is due to phenomena such as drivers crossing the border to buy cheaper fuel, but the decrease is probably the result primarily of more economical vehicles and machinery.

Zipfel says an “eco-tax” by name does not actually exist; it has however become a standard term used in association with the ecological tax reform. It signifies increasing the cost of energy by raising taxes in order to reduce consumption and thus environmentally damaging behaviour. This effect is also called the steering function of a tax, since taxes can also be deployed for this purpose as well as in order to generate revenue (fiscal objective) and redistribute income (redistribution objective).

The steering and fiscal objectives regularly conflict with one another, as the steering objective seeks to stop or reduce the frequency of an action (in this case energy consumption), which ultimately leads to a decrease in tax revenues, however. In other words, the more effectively the steering function is performed, the lower the revenue. Taxes of this kind are therefore not necessarily suitable as sustainable sources of public revenues that are responsive to growth. Zipfel says experience also shows that the steering objective can also be used as a cover for fiscal objectives. The signs that this is the case are clearer with the tobacco tax than with the petroleum tax. To date, there has still not been a government that has come up with the idea of raising the tobacco tax high enough to bring about a significant decrease in consumption.