Does the South African carbon tax internalise the environmental externalities of climate change and what are the impacts on emissions and the socio-economic landscape?

South Africa is ranked among the top 20 countries in absolute carbon dioxide emissions globally (National Treasury, 2013: 19) with 83% of emissions emanating from the energy and energy consumption sectors (Department of Environmental Affairs, 2014).  The high carbon intensity (tons CO₂e/R1000) of the economy has been due to the abundance of coal reserves with resulting cheap coal intensive electricity, leading to the establishment of the energy intensive mining and metals sectors as drivers of the economy (Alton et al., 2012).    

The escalating carbon emissions of this business-as-usual (BAU) scenario and resulting carbon intensity of the economy is untenable and in contrast to the national development goals of government which includes sustainable development and environmental health.

In 2009 the South African government voluntarily ratified the COP 15 accord to reduce emissions to below baseline levels.  The aim is to reduce GHG levels by 34% by 2020 and 42% by 2025 (National Treasury, 2013: 21) dependent on financial, technological and capacity building support from developed countries.  The resulting National Climate Change Response Policy (NCCRP) is the government’s response (Department of Environmental Affairs, 2014) to climate change and offers a strategic approach to mitigation and adaptation actions, institutional arrangements as well as monitoring and evaluation of the mitigation actions (Boyd et al., 2011: 18).  As part of the National Appropriate Mitigation Actions (NAMAs) for South Africa, is a carbon budgeting approach to identify mitigation measures for large emitters and a carbon tax to internalise climate change externalities by pricing carbon.  The carbon budget approach puts an absolute limit on the carbon dioxide emitted by applying a constraint on emissions nationally and per sector (Department of Energy (DoE), 2013: 31) whereas the carbon price approach is an intervention by government to correct the current market failure of excluding the environmental and social externalities caused by GHG emissions.  (National Treasury, 2013: 58).  The carbon pricing and budgeting mechanism, together with other regulatory measures aims to influence producer and consumer behaviour which is intended to incentivise the investment in low carbon technologies and the transition to a low carbon economy (National Treasury, 2013: 46). 

The price set on a ton of CO₂e is based on fossil fuel inputs and will start with a nominal rate of R120 with a 10% increase each year for the first 5 years (National Treasury, 2014: 5) with the possibility of the introduction of an ETS in 2025 (National Treasury, 2013: 35).  The effective rate will depend on the tax thresholds, industry sector allowances, graduated relief for trade exposed sectors and the availability of carbon offsets (National Treasury, 2013: 10). It is proposed that the revenue from the carbon tax be recycled through tax shifting to provide relief for poor households and support social and environmental programmes. 

However, does this price on carbon result in the maximum net social benefit balanced with the marginal costs?  In other words, is the carbon tax rate efficient?  Historically a price has not been set on the environmental and social externality of climate change for goods and services in South Africa.  Prices have been determined purely according to the market equilibrium of supply and demand.  Therefore the inclusion of the climate change externality will alter the market equilibrium of this classic supply and demand curve to a more efficient equilibrium (Chapter 3: The theory of environmental externalities, n.d.).  However, given the phased approach of the carbon tax with all the tax free thresholds and allowances, it is unlikely that the effective rate represents the ‘new’ market equilibrium accurately.  National treasury (2013, 46) also state that currently the proposed carbon tax does not reflect the true marginal external damage cost but will be adjusted over time as the global climate agreement matures. 

To give another perspective on carbon pricing, research done by Ackerman and Stanton (2012) to determine the actual ‘social cost of carbon’ (SCC), which is the damage per metric ton of carbon equivalent (tCO₂e), results in costs much higher than the $21 per ton tCO₂e estimated by the US Federal Interagency Working Group.  The cost of $21 per t tCO₂e for 2010 in 2007 dollars determined by climate economic models excluded the biggest risks associated with climate change and underplayed the effects on future generations according to the authors.  This price is equivalent to R80,22 (PPP in 2007 $) (“PPP conversion factor, GDP (LCU per international $) | Data”, n.d.).   For the South African carbon tax rate proposed by National Treasury in 2014, the high initial thresholds mean that the effective rate of between R12 and R48/ tCO₂e emitted is even lower than the $21/ tCO₂e estimated by the Working Group in 2010.  What Ackerman and Stanton (2012) found is that by re-analysing the models and including the four major uncertainties of climate sensitivity, level of damages at high and low temperatures and a discount rate they found that the SCC is approximately $900/ tCO₂e in 2010 and $1500/ tCO₂e in 2050.  The 2010 figure equates to approximately R4000/ tCO₂e (PPP for 2010 $), which again validates the economic inefficiency of the South African carbon price according to global studies.

Taking into consideration the current design of the South African carbon tax there have been a few studies conducted to determine the impact of the tax on emissions and socio-economic conditions.  The Long Term Mitigation Scenarios (LTMS) was the first study to determine the impact of a carbon tax on emissions and socio-economic development using Computable General Equilibrium (CGE) models (Merven et al., 2014: 7).  It found the carbon tax to be the best mitigating option with reductions of 12 287 Mt from 2003 to 2050 and an additional 5 000 Mt from economic incentives.  The socio-economic implications of a carbon tax (Merven et al., 2014: 7; Pauw, 2007; Kearney, 2008) resulted in a slight reduction in the GDP by 2% and job creation for semi-skilled workers in 2015.  There was also a negative impact on poor households which could be offset by revenue recycling.  Other studies conducted by the University of Pretoria, National Treasury and the World Bank on the macro-economic impacts (Merven et al., 2014: 7) from 2006 to 2012 found similar results with impacts on GDP being neutral provided that revenue recycling takes place.  However the main limitation in all of these studies was the use of static CGE models which did not take into account the market response to higher energy prices. 

Research by the National Treasury and the United Nations University – World Institute for Development Economics Research (UNU-WIDER) in 2012 used a South African CGE model linked to the Energy Extended South African General Equilibrium model (e-SAGE).  Results indicated that the impact on emissions were substantial with negligible impact on GDP, employment and income inequality.  It pointed out that if international trading partners introduce a border tax adjustment (BTA) on South African products this will have a larger negative impact on the social-economic landscape than a domestic carbon tax (Alton et al., 2012: 19).  Limitations included the model not being linked to an optimising energy model and the exclusion of the social cost of carbon.

The most up to date study was done by the ERC at the University of Cape Town as part of the Mitigation Action Plans and Scenarios (MAPS) programme using a linked model between the South African TIMES model (SATIM) and the (e-SAGE) (Merven et al., 2014: 8).  The linking of the two models allowed energy supply and demand to be endogenised in order to determine the socio-economic implications of a carbon tax and renewable energy programmes.  With regards to the current carbon tax design, it found that it only reduced emissions by 5% by 2040 relative to the reference or BAU case.  GDP was 0.7% less and there were 2.6% fewer jobs than in the 2040 reference case.  The sensitivity of the carbon price was tested by increasing the amount in $10 increments up to $50/ tCO₂e.  It was found that there was a tipping point between $10 and $20/ tCO₂e from 5% at $10 to a 50% reduction in carbon emissions at $20.   This indicates that the tax will be most effective at a rate of between R54 to R107/ tCO₂e (PPP in 2014 $) in curbing emissions.  However, the effect on GDP is a drop of between 0.7 - 3.2% and new job creation will decrease by 2.2 – 5.7%.

In conclusion it was found that the carbon tax rate is inefficient with the effective price not taking into account the negative externalities of climate change.  This was confirmed by comparing the South African carbon tax effective rate of R12 – R48/ tCO₂e to international research costings of between R80 – R4000/ tCO₂e for 2010.  These findings are applicable to the South African context as climate change is a global commons space.  With regards to the implications of a carbon tax on emissions and socio-economic development, the latest research found that the carbon tax is most effective in reducing emissions at an effective rate of between R54 – R107/ tCO₂e.  The resultant reduction in GDP and new job creation can be offset by recycling the revenues to households ensuring social welfare is not negatively affected.

References

Ackerman, F. & Stanton, E.A. 2012. Climate Risks and Carbon Prices: Revising the Social Cost of Carbon. Open-Assessment E-Journal. 6:2012–10. DOI: 10.5018/economics-ejournal.ja.2012-10.

Alton, T., Arndt, C., Davies, R., Hartley, F., Makrelov, K., Thurlow, J. & Ubogu, D. 2012. The Economic Implications of Introducing Carbon Taxes in South Africa.

Boyd, A., Rennkamp, B., Winkler, H., Larmour, R., Letete, T., Rahlao, S. & Trikam, A. 2011. South African approaches to measuring, reporting and verifying: A scoping report.

Chapter 3: The theory of environmental externalities. n.d.

Department of Energy (DoE). 2013. Integrated Resource Plan for Electricity (IRP) 2030.

Department of Environmental Affairs. 2014. South Africa’s Greenhouse Gas (GHG) Mitigation Potential Analysis. Pretoria.

Merven, B., Moyo, A., Stone, A., Dane, A. & Winkler, H. 2014. Socio-economic implications of mitigation in the power sector including carbon taxes in South Africa. (September). Available: http://www.erc.uct.ac.za/Research/publications/14-Merven-etal-Socioeconomic_implications.pdf.

National Treasury. 2013. Carbon Tax Policy Paper.

National Treasury. 2014. Carbon Offsets Paper.

PPP conversion factor, GDP (LCU per international $) | Data. n.d. Available: http://data.worldbank.org/indicator/PA.NUS.PPP?locations=ZA.