EPT: An Environment Protection Tax

Over the weekend I meet Nick, an accountant and consultant. He has an interesting idea about dealing with the environmental externalities markets are currently unable to capture. I would call is an ‘Environment Protection Tax’ – EPT for short – that would operate like the Value-Added Tax (VAT) already familiar in many countries.

After a really interesting conversation, this how I would summarise EPT as I now see it working:

1. We have some idea of the scale of the environmental externalities caused by our economic activity. We can at least assign an approximate percentage of what is required to address the resulting environmental problems and to update our industries so that the problem goes away.
2. A great deal of this arises from primary extraction industries – mining, oil, gas, fishing, and so on.
3. So, why not add an appropriate percentage to the price of primary products, to be passed on (like VAT is now) to each successive buyer in the supply chain.
4. Also like VAT, each payment is accounted for, netted out in the EPT return, and the surplus reclaimed at each stage…
5. …until the final consumer, who cannot reclaim the tax, and thus becomes the real payer.
6. One additional detail: that there should also be a system of tax breaks that allows anyone in the supply chain to avoid EPT if they can demonstrate that they are dealing with the externality directly. They then can reclaim the relevant portion of their EPT and convert the surplus to additional profits, more competitive prices, or anything else they chose.

The benefits of such a system are clear:

1. It is a very simple system that requires no incessant calculation of precise externalities.
2. We could reuse the exist VAT system to collect and disperse it.
3. The inclusion of tax breaks would actively drive environmental improvement at every point in the supply chain.
4. If primary production were not the best starting point for such as system, it could be readily migrated to other areas of economic activity.

Such a system would not be without its problems:

1. Who owns the resulting fund? At the moment it could only be collected by national governments, but experience suggests that they could not be trusted to use it for its intended purposes. Most governments are understandably allergic to hypothecating taxes to specific purposes, but surely has to be an exception. After all, if it were used to supplement general taxation, it would soon stop being used for its intended purpose, not least because for the foreseeable future at least, environmental protection is a long-term game, and elected governments don’t generally do long term thinking. International institutions such as the IMF, the WTO and the United Nations are equally suspect.
2. It’s potentially a bit crude and insensitive to the details of how externalities are really incurred and slightly out of touch with current environmental research. But at the moment this would be a small price compared with the ease and simplicity with which such a system can be understood, implemented and adapted as the level of externalities changes.
3. The indirectness of the relationship between tax and specific externalities may leave it open to subversion. As Nick himself warned me, a whole school of accountants will spring up to take advantage of any loopholes, and they become a profession that insists on being fed and expanded even though they add nothing of social value. As to what the investment bankers could make of such a system, I shudder to think.