Emissions & Equity: How a carbon tax on Indiana household emissions will impact households at different income levels.

Indiana is a state built on fossil fuels. This statement is supported by the presence of fifteen coal-fired plants found throughout the state. While these power plants are essential to provide energy for major population centers throughout the state, they are also major polluters, emitting millions of pounds of greenhouse gases like carbon dioxide and dangerous fine particulate matter. 

A heavy reliance on sources of energy that release greenhouse gases leads to troubling warning signs of a warming planet, including increasing rates of atmospheric carbon dioxide. Despite a momentary decrease in carbon emissions because of the COVID-19 pandemic, atmospheric carbon dioxide levels are at their highest level since accurate measures were first taken in 1958.

Action needs to be taken to mitigate the effects humans have on the environment. Carbon taxes and other market-based environmental strategies are becoming increasingly viable options as countries prepare to meet the ambitious goals of the Paris Climate Agreement.

There is currently no carbon tax policy implemented at the state or federal level in the United States. As a result of the lack of policies to tackle climate change in the U.S., various policies have been proposed. One such policy is known as the Baker-Schultz Carbon Dividends Plan which was proposed in the Indiana State Senate in February 2021. Created by a cohort of economists, environmentalists, and politicians for the Climate Leadership Council, the plan consists of the following four pillars:

1. A gradually rising carbon tax: an economy-wide fee on carbon emissions that will start at $40/ton and increase every year at 5% above inflation
2. Carbon dividends for all Americans: all net proceeds from the tax will be returned to U.S. households to make up for higher energy costs
3. Significant regulatory simplification: regulations that are no longer necessary upon the implementation of a carbon tax will be streamlined or removed
4. Border carbon adjustment: rebates will be given for carbon-intensive exports and fees will be taken for imports from carbon-intensive countries

Due to the complexities of this carbon tax plan and the limited scope of this research project, only the first pillar of this carbon tax plan was analyzed. An economy-wide carbon tax can bring about many benefits; technological innovations and changes in energy consumption behaviors are both likely as a result of a carbon tax. In turn, carbon emissions will decrease.

Using data from the U.S. Census and the Energy Information Administration, the average Indiana household emissions by income level was found. Once the $40/ton tax on carbon emissions was applied, the average additional expenditure that would go towards a carbon tax was found. These findings can be seen in Figure 1 below. Unsurprisingly, higher-income brackets will pay more overall towards the carbon tax, which makes sense since people with larger incomes typically have larger houses. 

However, a more interesting finding was the percentage of a household’s income that will go towards the carbon tax. As Figure 2 shows, as household income increases, the percentage of income that goes towards the tax decreases. Therefore, a larger financial burden is placed on low-income households. Even though these households emit fewer carbon emissions and pay a smaller carbon tax, the amount they pay towards the tax represents a larger percentage of their income. 

It should be noted that the second pillar of the Baker-Schultz carbon tax plan, a carbon dividend for individual households, could help mitigate the unwanted economic effects of an additional tax. Prior research has argued that carbon tax plans with a carbon dividend are progressive instead of regressive. However, examining how that pillar will affect individual U.S. households was outside the scope of this research paper.

The overall findings of this study support the hypothesis that low-income households in Indiana will be disproportionately affected by a carbon tax of $40/ton of carbon emissions. Currently, there is no perfect formulation when creating a carbon tax plan, and even when careful consideration is taken, unintended consequences can occur. While many economists agree that carbon emissions should be taxed, there is little to no consensus regarding the price at which carbon should be set.

There are certain directions policy makers can take to ensure that carbon taxes are equal across socioeconomic factors like income and race. Offering a carbon dividend to the most affected households or having a graduated tax structure based on income are examples of preventative measures that should be taken. If these changes to the carbon tax plan are realized and a carbon tax is implemented in the U.S., we will be closer to mitigating the anthropogenic effects of climate change and accomplishing the goals set out in the Paris Climate Agreement.

Emily Grecu is a senior at Indiana University. If you have any questions or would like a complete copy of this research paper, contact her at egrecu@iu.edu.