KPMG cautions against more green taxes

In a closely-argued examination of the interaction between environmental taxes and modern economies, ‘Taxation and the Environment’, a new study from KPMG’s Tax Business School in the UK, quotes figures from the Organisation for Economic Co-operation and Development (OECD) which show that in many economies environmental taxes as a proportion of Gross Domestic Product (GDP) have fallen in recent years.

OECD figures show that between 1996 and 2005 (the last year for which figures are available) the proportion of GDP accounted for by environmental taxes across 29 of the world’s largest economies has fallen by an average of 0.2 percent. (See table attached).

“Given the increase in government rhetoric on green issues in the past ten years, and the enthusiasm among campaigners for new environmental taxes, it is odd to see that the apparent importance of environmental taxes in so many economies has actually fallen,” said KPMG global head of tax, Loughlin Hickey.

Frank Sangster, Head of the Environmental Tax and Incentives Group at KPMG in the UK added: “If green taxes are being used as a tool of environmental protection, we would expect to see them rise as a proportion of GDP. Some might say that GDP growth has been very strong across these countries in the period we have examined, so it’s not surprising that green taxes should seem to decline. But even if we look instead at environmental taxes as a proportion of the total tax income for these countries, we see the same thing; green taxes seem to be falling in importance.”

Is tax an effective tool?

It is not clear why this has happened. Governments may have discovered that tax can be a blunt and possibly ineffective tool if it is used to pursue the single aim of reducing environmental damage. Or it may be so effective in making people change their behaviour that the revenue from these taxes has fallen. It is even possible that governments are not as committed to environmental protection as their rhetoric suggests.

Looking at the effectiveness of tax as a green tool, the study examines the widely accepted idea that governments can and should switch the focus of their tax policy from taxing ‘goods’ like work or savings, to taxing ‘bads’ like pollution.

Supporters of this idea claim that it provides a double dividend, by simultaneously raising revenue and reducing undesirable activity - the ultimate alignment of tax policy with green policy. But the study shows that its effects are more complex.

“Pollution, climate change and the use of scarce natural resources are not the result of attempts to harm the environment in which we live, but the side effects of activities intended to enhance our enjoyment of it.” the study says, “Any attempt to tax these activities has the potential for harmful as well as beneficial effects on human welfare. The challenge is how to tax the pollution while minimising the impact on the activity.”

Changing priorities

It points out that in the case of the UK, the fall in receipts is very largely attributable to a fall in real terms in duties on road fuel. This is separately confirmed by the OECD’s analysis of its own figures, which goes on to show that this is also true for many other large economies, particularly in Europe.

Frank Sangster said that this change may not be due to a lack of government commitment to cutting emissions from road transport, but to a change in priorities for raising revenue. Governments may decide instead to tackle environmental problems through other means such as direct regulation, as the US is proposing to do with legislation on car fuel efficiency, or via market mechanisms like the carbon trading scheme.

He added that a reason for choosing these alternatives may be that taxing environmental problems can have undesirable side effects. These forms of taxation are often regressive, in that by raising prices they have a greater impact on the poor than on the rich. They can also be unreliable sources of revenue, because the more effective they are in persuading people not to pollute, the less revenue they will raise.

UK business increasingly concerned about climate change

UK business is becoming increasingly concerned about climate change: according to a recent KPMG survey of 200 senior UK business executives, 85% think that climate change is a significant business issue and 77% think it will grow in importance.

However, despite acknowledging its rising importance 82% admit they still don’t have a strategy in place to respond to climate change.

Frank Sangster commented: “Business is looking for improved communication and a clear regulatory framework from the Government to provide certainty so that they know where to focus their emission saving efforts. And next week’s budget provides a key opportunity for the Chancellor to give some clarity in this area. Any significant investment in new carbon efficient business practices or energy saving technology is unlikely to go ahead until they fully understand the impact of regulation.”

Case study: the Irish plastic bag tax

One example of a green tax wrestling with these problems is the Irish plastic bag tax. When this was introduced on 4th March 2002 the levy had an immediate effect on consumer behaviour - plastic bag per person usage decreased overnight from an estimated 328 bags to 21.

However, income from the levy increased, and surveys showed that plastic bag usage rose to 31 bags per person during the course of 2006. This prompted the Irish government to increase the levy from 15 Euro cents to 22 Euro cents in July 2007, against a background of calls for a much greater increase.

The explicit aim of the increase was not to raise revenue but to reduce usage to the level achieved in 2002 or lower. “This raises the question of whether people’s underlying behaviour really can be changed by a tax change alone,” said Frank Sangster.

“The plastic bag levy seems to be having the desired effect, but the Irish Government uses the money raised by the levy to support environmental education and waste management programmes, so it may be a combination of education and taxation that is working, rather than just taxation. I do wonder how high the tax would have to be to have the same effect if there were no education schemes as well, and at what level the regressive nature of the tax would start to produce undesirable social effects. The Irish plastic bag levy is is a clear demonstration that green taxes have to be balanced against the other effects that they have before governments can decide whether, and at what level, they should be imposed.”

Frank Sangster added. “KPMG’s Tax Business School study argues that there is no such thing as a pure environmental tax, just taxes with environmental effects. Governments may decide that tackling environmental problems requires a much more sophisticated set of responses than simply devising a new tax. Getting the balance right between taxation and other measures, is a major challenge, perhaps the biggest single challenge, for governments throughout the world.”