You have probably heard that we are facing a climate crisis. You probably also know that burning fossil fuels significantly contributes to global warming and air pollution. Given these dangers, you might find it hard to believe that fossil fuel companies receive a staggering $5 trillion in subsidies annually, equivalent to over 6% of global GDP. The International Monetary Fund (IMF), which calculated the size of the subsidies, explained that without them global deaths from air pollution would fall by nearly half and total carbon emissions would drop by almost 30%. Those reductions mean nearly four million fewer deaths and over ten billion fewer tons of CO2 each year.
Fossil fuel subsidies take many forms. Many governments around the world provide direct incentives for exploration and production. In the United States, deductions for well-drilling allow companies to reduce their tax burdens by nearly $2 billion a year. Until recently, coal companies benefitted from the nonconventional fuels tax credit, which paid the industry over $12 billion from 2002-2010. Numerous other incentives and generous accounting treatments represent billions more in giveaways.
While these direct subsidies are massive, the largest gift to fossil fuel companies comes from allowing them to use our atmosphere as a waste dump. Fossil fuel pollution continues to sicken and kill millions each year and is likely making the Covid-19 pandemic worse. The greenhouse gases released during combustion are driving climate change. Despite the growing harms to public and environmental health, fossil fuel companies rarely pay for the damage their products cause. Instead, the entire planet pays for these mounting costs. The renowned British economist Sir Nicholas Stern rightly declared that “climate change is a result of the greatest market failure that the world has seen.”
Our public park
A simple analogy can explain why Stern and other leading economists believe that the climate crisis represents a colossal market failure. Imagine we have a park in our town. We can consider the park a “public good” because we cannot exclude people from using the park and your enjoyment of the park does not diminish my enjoyment of the park. Similarly, our atmosphere is a public good. We all benefit from a stable climate and clean air, and you enjoying these benefits does not limit my ability to do so as well.
Now, imagine a clothing factory opens next to the park. They produce clothes for stores in town, but they also create waste that spreads into the park. Soon the pond is a sludgy mess and joggers on the trails are struggling to catch their breath. The waste is called an “externality” because we have no control over the waste, but we suffer from its effects. Additionally, the negative effects we experience are not reflected in the price of the clothing. Likewise, fossil fuels create dangerous pollutants and greenhouse gases whose harms are not reflected in the price of fuel. As a result, fossil fuels are overproduced relative to their true cost to society.
Fortunately, there is a solution to this market failure. Once we estimate the damages to the park, the clothing manufacturer can be made to clean up the mess. Then, going forward, the manufacturer would pay a fee for its waste equal to the harm that waste causes. This is called a “Pigouvian tax,” and it removes the externality by shifting the payment of the social costs onto the manufacturer. The manufacturer can then decide to upgrade to cleaner processes to eliminate the pollution or put the money towards maintaining the health of the park. Either way, we end up with a clean park. Unfortunately, with fossil fuels, we are not charging the producers for the social costs but incentivizing them to produce more. This is almost akin to paying the clothing factory to dump waste in our park.
The polluter pays
A simple yet powerful philosophy can guide global emissions reductions efforts: the “polluter pays” principle. As in our park example, those who produce harmful pollution should bear the costs of its clean-up. “Polluter pays” is both morally equitable and economically efficient.
In order to determine the appropriate costs for pollution, we need to have a price on carbon. As carbon dioxide is the most important human-produced greenhouse gas, other pollutants can be converted into a carbon dioxide equivalent. Then, a business’s total emissions can be calculated. With this information, businesses can be held responsible for their impacts on global warming and public health.
Although there are many proposals for carbon pricing, two stand out for their comprehensiveness and economic soundness: a carbon tax or a cap-and-trade system. Both methods have ardent defenders, but a study by the World Resources Institute determined that, if designed well, both can be effective.
Today’s global landscape for carbon pricing is a fractured one. There are 40 countries and 20 states with carbon pricing mechanisms, but these only represent 13% of global emissions. Most prices are too low compared to the impacts of fossil fuel emissions, meaning that the negative externality remains. Fortunately, World Bank analysis indicates that more nations are exploring carbon pricing and those with prices are looking at increasing them.
The path forward
The legendary environmentalist Bill McKibben once stated that his goal was to “revoke the social license of the fossil fuel industry.” While that may sound radical to some, McKibben makes an astute point. Fossil fuel companies retain the social license to pollute our shared atmosphere and pass along the costs to the rest of us. Now, more than ever, individuals are fed-up with this unfair and unsustainable arrangement and are actively working to change it.
Covid-19 has thrown the global economy into turmoil, with the fossil fuel industry being particularly affected. Simultaneous supply and demand shocks have put many firms in dire straits. Since the Financial Crisis, fossil fuel valuations have been falling and their political influence has been diminishing. The pandemic has accelerated the industry’s decline. Today, we have a unique opportunity to redefine our energy systems and correct a $5 trillion market failure. The health of our planet depends on us doing so.
This article is one in a series on the hidden plague of air pollution. The prior articles cover pollution’s global health consequences, America’s environmental inequality, and why the Clean Air Act helps us all breathe easier.