A Fate Worse Than Tariffs

There's been a lot of chatter over an amendment inserted into the Waxman-Markey bill that would impose trade penalties on imports from countries that haven't set limits on greenhouse gases. Barack Obama, for one, has spoken out against it. Tyler Cowen calls it the "new Smoot-Hawley." Fair enough. On the other hand, a lot of people attacking the provision seem to be from the same school that argue that global warming is intractable because China and India won't make the requisite adjustments. This would seem to be a step towards forcing them to make the requisite adjustments.

In any case, I'm not really sure what I think of the policy. I'd want to see some more detailed analysis on its likely efficacy. But I do want to quote Paul Krugman's response to some of the knee-jerk opposition:

The truth is that there’s perfectly sound economics behind border adjustments related to cap-and-trade. The way to think about it is in terms of a well-established theory — the theory of non-economic objectives in trade policy — that owes its origins to Jagdish Bhagwati, who certainly can’t be accused of being a protectionist. The essential idea is that if you have a non-economic objective, such as self-sufficiency in food production, you should choose policy instruments to align incentives with that objective; in normal circumstances this leads to consumer or producer intervention, rarely to tariffs.

But in this case the non-economic objective is to reduce greenhouse gas emissions, never mind their source. If you only impose restrictions on greenhouse gas emissions from domestic sources, you give consumers no incentive to avoid purchasing products that cause emissions in other countries; as a result, you have an inefficient outcome even from a world point of view. So border adjustments here are entirely legitimate in terms of basic economics.

And they’re also probably OK under trade law. The WTO has looked at the issue, and suggests that carbon tariffs may be viewed the same way as border adjustments associated with value-added taxes. It has long been accepted that a VAT is essentially a sales tax — a tax on consumers — which for administrative reasons is collected from producers. Because it’s essentially a tax on consumers, it’s legal, and also economically efficient, to collect it on imported goods as well as domestic production; it’s a matter of leveling the playing field, not protectionism.

And the same would be true of carbon tariffs.

What’s happening here, I think, is that people are relying on what Paul Samuelson called an economic “shibboleth” — they’re relying on some slogan rather than thinking through the underlying economics. In this case the shibboleth is “free trade good, protection bad”, when what the economics really says is that incentives should reflect the marginal cost of greenhouse gases in all goods, wherever produced — which in this case happens to imply border adjustments.

I think, again, that we're in one of these situations where all else being equal, it would be better not to be mucking around with tariffs. But all else is not equal. We're triggering the largest change in the climate since the Ice Age. That may, indeed, be a fate worse than tariffs.