Is the Recent Run Up in Energy Prices Good for the Environment?
| Author | Joseph E. Aldy |
| Position | Economist on the faculty at the Harvard Kennedy School |
| Pages | 15-15 |
JANUARY/FEBRUARY 2022 | 15
Reprinted by permission from The Environmental Forum®, January/February 2022.
Copyright © 2022, Environmental Law Institute®, Washington, D.C. www.eli.org.
An Economic Perspective
THE United States has recently
experienced the fastest rate of
ination in three decades, with
the run up in energy prices playing
a critical role. Overall fuel prices in
October were 30 percent higher than
a year earlier, and in mid-November,
U.S. gasoline prices had reached
their highest level in seven years.
ese higher prices primarily reect
changes in underlying market funda-
mentals, especially demand outpac-
ing hydrocarbon production.
While some analysts have sug-
gested that these higher prices could
encourage energy conservation and
greater adoption of electric vehicles,
which in turn could reduce carbon
dioxide emissions, the benets for
the environment are likely modest.
Energy price vola-
tility has increased
substantially during
the pandemic, with
crude oil prices rang-
ing from negative
$37 per barrel in late
April 2020 to more
than $80 per barrel in late 2021.
Such volatility makes it dicult
for businesses and households to
assess the value of their next invest-
ment in an energy-consuming du-
rable, whether it’s a boiler at a factory
or a new car. is uncertainty about
the returns can weaken incentives for
private investment, as businesses wait
to learn more about how energy pric-
es may change in the future. Indeed,
when uncertainty grows — such as
with the recent market swings —
more and more businesses will nd it
optimal to delay investment.
If a higher energy price reects the
eect of a long-term climate policy
— a carbon tax, for example — then
energy consumers may expect higher
prices, driven by policy, to persist.
is predictability may reduce the
prospect that a business would make
an investment error — expecting
high energy prices, buying a more
ecient and costly piece of long-
lived equipment, and then realizing
lower-than-expected energy prices
in practice. Sarah Armitage and I
have written about how a carbon
tax could result in fewer such invest-
ment errors — and hence lower so-
cial costs of reducing carbon dioxide
emissions — than policy tools that
do not provide certainty over price
impacts. Several other research pa-
pers have shown how consumers cut
their gasoline consumption more in
response to a given change in a tax
on gasoline than the same increase in
the price of gasoline. e durability
of tax policy reduces the uncertainty
over future prices that characterizes
market-driven price increases.
A predictable en-
ergy price impact
resulting from cli-
mate policy would
also deliver clearer,
durable signals of the
potential returns to
innovation. is may
motivate more inventors and entre-
preneurs to work toward developing
novel clean energy technologies and
commercialize them for the market.
e boom-bust cycles of the oil mar-
ket since the 1970s have undermined
such incentives, while a comprehen-
sive long-term climate policy frame-
work would signicantly improve
them.
e distributional impacts of
higher energy prices can also dif-
fer quite substantially under climate
policy than under similar energy
prices that reect short-term chang-
es in energy supply and demand. If
consumers pay more for gasoline
and heating oil because crude oil
prices are higher, or rening margins
are greater, then these higher prices
translate into greater prots for oil
producers and reners. ese prots
mean greater returns to the owners
of the companies — shareholders,
private owners of smaller companies,
and national oil companies (and
their governments). Lower-income
households, who typically dedicate
a larger fraction of their budgets to
energy consumption, bear a dispro-
portionate burden under this higher
energy price scenario.
If consumers pay more for these
fuels because of a carbon tax, how-
ever, then the government collects
the revenues, not the oil companies.
It can direct relief to those hardest
hit by higher prices. For example,
when British Columbia launched its
carbon tax, it created a special cash
assistance program for low-income
households. Analyses of the tax-and-
dividend approach to carbon pricing
— returning all revenues as quarterly
payments to households on a per
capita basis — suggest that the bot-
tom 70 percent of the income distri-
bution would receive more in these
regular dividends than what they
would pay through higher energy
prices as a result of the carbon tax.
Finally, higher energy prices re-
sulting from tight energy supplies
may reduce the political appetite for
more ambitious climate change pol-
icy — whether a carbon tax or new
regulations — that would likely im-
pose higher energy costs and prices,
at least in the near term. Current
high prices may make the potential
costs of curbing emissions more sa-
lient and weaken public support for
such climate policies.
Is the Recent Run Up in Energy
Prices Good for the Environment?
Durable tax
policy reduces
the uncertainty of
market responses
Joseph E. Aldy is an e conomist
on the facult y at the Harv ard Ken-
nedy School . You can contact hi m at
Joseph_Aldy@hks.harvard.edu.
To continue reading
Request your trial