A substantial nationwide tax on carbon dioxide (CO₂) could accelerate a transition to a low-carbon economy in the United States consistent with efforts to reverse global climate change. Such a tax would also raise significant revenue, ranging from $142 billion to $579 billion in 2050 under various carbon tax rates explored in this paper. A critical issue is what to do with the revenue. Proposals range from using it to reduce disparities among households, to reducing personal income taxes, corporate income taxes or other taxes. A better understanding of the implications of how the tax revenues are recycled could enable decision-makers to choose among these options.

Toward that end, researchers from the MIT Joint Program on the Science and Policy of Global Change, HEC Montreal and the National Renewable Energy Laboratory (NREL) completed a comprehensive analysis of the potential economic impacts of a national tax on U.S. CO₂ emissions, with an emphasis on the household-level effects of different CO₂ tax revenue distribution methods. They performed the analysis by linking a computational general equilibrium model of the U.S. economy (MIT’s U.S. Regional Energy Policy (USREP) model) with a detailed model (NREL’s Regional Energy Deployment System (ReEDS)] of the electricity sector, the largest source of U.S. CO₂ emissions.

Evaluating the economic impacts on households of different income levels resulting from a wide range of per-ton CO₂ taxes (initial amounts and rates of increase) and revenue distribution methods (e.g. recycling revenue through capital income tax rebates, labor income tax rebates, or lump-sum transfers to households), the researchers found a clear trade-off between emissions-reduction efficiency and economic equity among those methods. They determined that a hybrid approach that combines capital income tax rebates with lump-sum transfers to low-income households provided an effective way for reducing disparities among households of different income levels, while reaping some of the benefits of reduced taxes on capital income.