People's Republic of China: Selected Issues

The People's Republic of China: Selected Issues

Abstract

The People's Republic of China: Selected Issues

Climate Mitigation Policy in China: The Multiple Attractions of Carbon or Coal Taxes1

  • China targets significant progress on domestic and global environmental challenges. Measures envisioned in the 13th five-year plan, along with economic rebalancing, will make some progress on these goals.

  • There are, nevertheless, potentially huge environmental, health, fiscal, and economic benefits from additional fiscal reforms that could build on existing administrative structures.

  • A carbon or coal tax progressively rising to RMB 455 per ton of carbon dioxide (CO2) by 2030 reduces CO2 emissions by around 30 percent, raises over 3 percent of GDP in revenue, and generates economic benefits (domestic environmental benefits less economic costs) approaching 5 percent of GDP by 2030, while saving close to 4 million lives over 2017–30 from less exposure to local air pollution.

  • An equivalently scaled emissions trading system (ETS) has roughly half the environmental, fiscal, economic, and health benefits, as it excludes coal use from small-scale users, while other fiscal and regulatory policies are substantially less effective than the ETS.

  • Using around 5 percent of the revenue from carbon/coal taxes can fully compensate low income groups for increased energy prices, while 10 percent of the revenues could compensate vulnerable, trade-exposed firms (though less compensation is needed if other countries also act on their Paris mitigation commitments).

1. Methodology. Parry and others (forthcoming) develop a practical spreadsheet model for evaluating a wide range of national-level fiscal and regulatory policy options for reducing energy-related CO2 emissions in China. The model begins with energy flow data for China from the International Energy Agency (IEA) and projects this forward to 2030 using assumptions about GDP growth, trends in the energy intensity of GDP, future fuel prices, and exogenous technological change. The impacts of different policies hinge on behavioral response assumptions, such as for fuel use and energy efficiency, in different sectors, which are based on surveys of empirical evidence. Local air pollution deaths from fuel combustion are based on previous IMF estimates for China (Parry, Heine, Li, and Lis, 2014). Incidence analysis is conducted by linking the policy-induced impacts on energy prices from the spreadsheet tool to an input-output model to trace through price impacts on different industries and consumer goods, and combining that with survey data on spending for energy and other products by different household groups.

2. Findings:

  • With no new (or tightening of existing) policies beyond those implicit in observed data for 2013, the energy intensity of GDP in China is projected to decline by 37 percent between 2015 and 2030, with CO2 per unit of energy remaining about constant (Figure 1, panel a). While the productivity of renewables grows faster than for coal, a counteracting factor is the recent decline in coal prices. Coal accounts for 83 percent of CO2 in 2015, while natural gas accounts for 3 percent and oil products 13 percent.

  • A carbon tax rising from 15 RMB per ton from 2017 to reach 230 RMB by 20302 reduces CO2 by about 20 percent below baseline levels in 2030 (Figure 1, panel b), meeting China's CO2 intensity target for Paris,3 with less coal use accounting for about 95 percent of the CO2 reductions. A carbon tax reaching 455 RMB per ton by 2030 reduces 2030 emission by 30 percent. Taxing coal only (at the same rate) achieves around 95 percent of the CO2 reductions under the carbon tax.

  • An ETS will be introduced in China in 2017 for the power sector and large industrial sources, building on seven regional pilot programs, and will be about twice as large as Europe's trading market.4 Nevertheless, an ETS (establishing the same emissions price trajectories as in the carbon tax scenarios) is estimated by the model to generate only about half of the CO2 reductions as the carbon and coal taxes because it excludes coal use from small-scale users. The effectiveness of other policies at reducing CO2 emissions—including taxes on electricity and road fuels, and policies to reduce the CO2 intensity of power generation, to increase energy efficiency in the power, transport, and other energy sectors, and to increase renewable generation fuels—is significantly, or in many cases, substantially less than for the ETS (Figure 1, panel b).

  • The carbon tax also has the greatest fiscal benefit, raising revenues of 1.7 percent of GDP in 2030 or 3 percent for the RMB 230 and 455 tax scenarios, respectively (Figure 1, panel c), despite shrinkage in the tax base relative to GDP. Again, the coal tax is not far behind, raising revenues of about 83 percent of those under the carbon tax. The ETS—if allowances are auctioned—and the electricity tax raise revenues of about 45 and 35 percent, respectively, as from the carbon tax. Other policies raise much smaller amounts of revenue, no revenue, or lose revenue in some cases.

  • Lives saved (the difference between deaths in the baseline and under different policies) progressively increases over time as cleaner local air lowers incidence of pulmonary diseases, lung cancer, strokes and heart disease in many Chinese cities. Cumulated over 2017 to 2030, the higher carbon and coal tax scenarios save about 4 million lives, and the ETS about 1.9 million (Figure 1, panel d).5

  • Net economic gains. On economic grounds, the carbon and coal tax also perform far better than other policies, causing (in the high tax scenarios) costs of about 0.7 percent of GDP but domestic environmental benefits exceeding 5.5 percent of GDP, leaving a net economic gain approaching 5 percent of GDP. Net economic benefits are 2.15 percent of GDP under the ETS, and much lower under other policies (Figure 1, panel e).

3. Administration. The best way to administer the tax would be to levy it upstream at the point of entry in the economy (for example, at the mine mouth for coal, building off existing administrative structures for China's Resource tax,6 and for petroleum products at the refinery or gas processing plants, while imported fuel would be taxed at the border). There are currently in China about 11,000 coal mines (though restructuring will likely close around 4,000 of them over the next few years) and far fewer petroleum refineries and gas processing plants. This would contrast, by orders of magnitude, with the number of transactions the tax administration would have to monitor to collect a carbon tax downstream. Alternatively, the tax could be levied on large emitters, but—besides missing about half the CO2 emissions—measuring emissions is technically more challenging than measuring carbon content of fuel combustion, requiring a high level of technical expertise typically not found in tax administrations.7

4. Incidence across households. The analysis also reveals that a carbon or coal tax imposes a disproportionately large burden on low income households—50 and 25 percent larger relative to their consumption for the first and second income deciles respectively, compared with the tenth (top) income decile. Recycling about 5 percent of the tax revenues can, however, offset adverse impacts on the bottom two deciles, for example, through reduced social security contributions and increased welfare and social spending (areas where China has been lagging relative to advanced and other middle income countries).8 An ETS with auctioned allowances is somewhat more regressive than carbon and coal taxes, and dramatically more regressive if allowances are freely allocated (with rents accruing to owners of capital).

5. Incidence across firms. A carbon or coal tax imposes a relatively large cost in industries most closely associated with traditional growth engines (e.g., heavy manufacturing, construction), though exporting sectors do not bear a disproportionate share of the tax burden compared with other sectors. While costs would increase in comparison to producers in other countries without carbon pricing, the analysis suggest that mitigating fiscal measures to provide some support would not be overly costly—around 10 percent of revenues collected through the carbon or coal tax would be sufficient to compensate the most energy-intensive and trade-exposed industries (assuming no mitigation actions in other countries).

6. A carbon or coal tax can effectively address domestic environmental challenges, thereby promoting a more sustainable growth path. Given that sectors most dependent on coal and energy are heavy industries associated with the 'old growth' model, these taxes will support China's effort to rebalance its economy towards high value-added services and consumption-led growth. Moreover, by contributing to coordinated efforts from the international community to slow global warming, these taxes will also reduce the negative impacts climate change will have in China, such as higher occurrence of natural disasters to which coastal areas are particularly vulnerable.9 Although the government is committed to introducing an ETS in 2017, this should not preclude the simultaneous introduction of an upstream carbon or coal tax. This could be facilitated by providing some tax rebates for firms required to obtain emissions allowances to ensure all emitters pay the same unit price of carbon. Given the very large domestic benefits from these policies, China can move ahead unilaterally on its pledges for Paris and make itself better off, without waiting for others to act.

Figure 1.
Figure 1.

Environmental Reform: The Huge Benefits from Taxing Carbon or Coal

Citation: IMF Staff Country Reports 2016, 271; 10.5089/9781475524383.002.A008

Source: IMF staff estimates.

References

  • Calder, J., 2015, “Administration of a U.S. Carbon Tax,” in Implementing a U.S. Carbon Tax: Challenges and Debates, ed. by I. Parry, A. Morris, and R. Williams (New York: Routledge).

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  • Lam, W. R. and P. Wingender, 2015, “China: How Can Revenue Reforms Contribute to Inclusive and Sustainable Growth?IMF Working Paper 1566 (Washington: International Monetary Fund).

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  • Parry, I., D. Heine, S. Li, and E. Lis, 2014, Getting Energy Prices Right: From Principle to Practice (Washington: International Monetary Fund).

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  • Parry, I., B. Shang, P. Wingender, N. Vernon and T. Narasimhan, forthcoming, “Climate Mitigation in China: Which Policies Are Most Effective?IMF Working Paper (Washington: International Monetary Fund).

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  • World Bank and Development Research Center of the State Council, 2013, China 2030: Building a Modern, Harmonious, and Creative Society (Washington: World Bank).

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1

Prepared by Philippe Wingender (FAD).

2

The carbon tax should be introduced progressively with rates announced in advance so firms and consumers have time to adapt and undertake mitigation investments (e.g., wind and solar plants, more efficient buildings).

3

The target is to lower the CO2 to GDP ratio by 60–65 percent below 2005 levels by 2030.

4

The ETS will cover electricity, domestic aviation, iron and steel, chemicals, cement, paper and other sectors.

5

The analysis may overstate the domestic health benefits of carbon mitigation policies as it assumes incremental benefits are the same, regardless of pollution concentrations. Recent evidence suggests a possible concave relation between mortality and pollution concentrations.

6

That is, adding a specific component with rates determined based on quantities of carbon to the ad valorem structure recently introduced. Alternatively, the tax could be set on coal processing plants which are far fewer in number than coal plants.

7

See Calder (2015).

8

Lam and Wingender (2015).

9

World Bank and Development Research Center of the State Council (2013).

The People's Republic of China: Selected Issues
Author: International Monetary Fund. Asia and Pacific Dept