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How Tackling the Carbon Taboo Could Solve U.S. Republicans’ Budget Problem

America’s Congressional Republicans could close most of the US$1.4 trillion (at last count) gap in their moving target of a tax reform, a top ex-Goldman Sachs risk manager says. There’s just one catch: they’d also have to recognize the danger that carbon poses to the global climate.

“If you price things appropriately, people will make the right decisions,” said Robert Litterman, who led Goldman’s quantitative asset management investments until he left the company, later becoming chair of the risk committee at Kepos Capital. “They’ll do the right thing.” The free atmospheric dumping of carbon dumping is “a bug in the tax code” that ultimately creates “an asset-pricing problem,” he declares.

But Bloomberg’s Eric Roston notes that “a $25 per ton carbon tax would go a long way toward balancing out the cost of reforms” the GOP is determined to push through, to slash taxes for corporations and certain private business families with the same tax profile as Donald Trump’s.

At $25 a ton—a modest rate by world standards and well below the actual damage likely done by each incremental ton of carbon released—an American carbon tax would raise $1 trillion over the next decade, getting the GOP more than two-thirds of the way to solving its budget math problem.

The party could close the gap entirely if it adopted a carbon tax at the same level as Canada’s 2022 target.

Even that would fall short for Litterman, whose research on carbon brought him to the conclusion “that taxes on greenhouse gas pollution should be higher than anything proposed or enacted almost anywhere in the world,” Bloomberg notes. Sooner or later, he predicted, “we’re going to recognize this for what it is, which is an extremely dangerous risk management failure. That means we’re going to have to price emissions at a high level—globally—very quickly, or much more quickly than people expect.”

Some countries have legislated carbon prices ranging from US$3.00 per tonne in Mexico to $130 per tonne in Sweden, to roughly reflect the damage caused by each additional tonne of emissions. Canada plans to establish a national benchmark price of C$10 a ton next year, rising to $50 by 2022.

During the Obama administration, U.S. government economists assumed a price of between US$30 and $40. The Trump administration lowered that estimate to under $5, in large part to justify repealing Obama’s Clean Power Plan, which would have reduced America’s emissions from coal-fired power plants.

Litterman believes most of those benchmarks are dangerously low, mainly because they underestimate “worst-case scenarios, which are a critical input for professional risk assessment.” He compares government low-balling of climate risk to the mistakes made in the American financial sector in the mid-2000s, “shortly before bad mortgages nearly destroyed the financial planet”.

For all its good sense, Litterman’s argument falls on deaf ears in America’s Congress, dominated in both houses by Republicans for whom taxes of any kind are anathema and climate change a left-wing conspiracy. Quips Roston: “To call a carbon tax dead on arrival would be an insult to dead things, since they have spent at least some time being alive.”