Economists believe that a well-designed carbon tax is the most economically efficient policy to incentivize carbon reductions. A well-designed carbon price will encourage businesses and consumers to reduce carbon emissions. As of August 2020, 25 countries have implemented a national-level carbon tax, covering 5.5 percent of global GHG emissions. Sweden is one of the countries that first implemented a carbon tax. How is it working in practice?
The Tax Foundation released a new study providing an overview of Sweden’s carbon tax over the last 30 years. Sweden’s carbon tax is distinct, with “a high tax rate that is predominantly levied on fossil fuels used as motor fuels and for heating purposes.” Due to the exemptions applied to various sectors such as the industrial sector, the carbon tax covers about 40 percent of the country’s greenhouse gases. Sweden’s carbon tax rate is highest globally at €110 per metric ton of carbon in 2020.
With minimal fossil fuel resources, Sweden relies on imported fossil energy and domestic supplies of renewable energy. Therefore, taxpayers of the carbon tax in Sweden are importers, distributors, and large consumers as the tax is “collected upon either consumption or delivery to a non-registered taxpayer.”
Critics of carbon prices often claim that the emissions reductions achieved by a carbon tax will be detrimental to the economy, but this has not been the case in Sweden. With the carbon tax in place over the last three decades, the study finds that Sweden has maintained robust economic growth, with its real GDP per capita increasing by more than 50 percent from 1990 to 2019. Meanwhile, GHG emissions have declined by 27 percent between 1990 and 2018, with the largest emissions reductions in heating homes and industrial facilities. In their study, Metcalf and Stock find no evidence to support the claim that a carbon tax would “adversely impact employment or GDP growth” by examining 15 countries that are in the EU emissions trading system, but also have their own domestic carbon taxes. They also find modest evidence for emissions reductions associated with a carbon tax.
The Tax Foundation study also finds that Sweden’s carbon tax revenue peaked around 2010 and has declined slightly over the last decade, due to the shrinking tax base and modifications to the exemptions. In 2019, the carbon tax’s revenue was approximately 1 percent of its total tax revenues. It’s estimated that about half of the revenue goes to the government’s general funds, while the other half was used to lower other taxes, such as the personal income tax.
It’s worth noting that Sweden’s carbon tax has drawn criticism. According to the study, despite its high price, the policy has not achieved a satisfactory emissions reductions level. That is because major polluters such as steel manufacturers are largely exempted from the tax to protect their international competitiveness, so they are not incentivized to cut their emissions.
Sweden’s carbon tax provides us at least two important lessons: first, a well-designed carbon tax should cover a broad base of goods, and it should not give undue advantages or exemptions to certain industries that would worsen the distortions from the tax; second, protecting international competitiveness of domestic industries is a key challenge of implementing a domestic carbon tax, which would be addressed best by a border adjustment mechanism that equalizes the tax burden on imported and local goods.