A Carbon Tax vs. Payroll Taxes

The income tax raises a huge amount of money for the federal government. Replacing the personal income tax with a carbon tax is problematic, alas . We could hit the maximum of the Laffer Curve without raising sufficient funds; the carbon tax could work too well at cutting CO2 emissions. Furthermore, a carbon tax could be regressive, so we'd have to give out a rebate in order to avoid increased poverty.

Payroll taxes (FICA, Medicare, employment) are smaller, and they are quite regressive. Not only are they a flat rate, they cut off above a maximum income level. Replacing FICA with a carbon tax might be more progressive than the current system. The same goes for Medicare taxes. We might as well replace both at the same time and thus save employers quite a few hassles.

For the 2007 fiscal year, payroll taxes were 32% of the budget or roughly:

.32 * $2.655 trillion = $850 billion

Our table is now (with no rebate):

Tax rate required to raise $850.000 billion given various conservation rates
Given a Conservation Rate ofRequired Carbon Tax RateAdditional Cost per Gallon GasolineAddition Cost per kw-hr Electricity
0%$0.57/kg
=$515.15/ton
$1.70/gallon$0.09/kw-hr
10%$0.63/kg
=$572.39/ton
$1.89/gallon$0.10/kw-hr
20%$0.71/kg
=$643.94/ton
$2.12/gallon$0.11/kw-hr
33%$0.85/kg
=$768.88/ton
$2.54/gallon$0.12/kw-hr
40%$0.94/kg
=$858.59/ton
$2.83/gallon$0.13/kw-hr
50%$1.13/kg
=$1030.30/ton
$3.40/gallon$0.14/kw-hr
60%$1.42/kg
=$1287.88/ton
$4.25/gallon$0.16/kw-hr

FICA taxes are currently 15.3%. A worker making $6/hour for 40 hours/week thus pays $37.72/week in FICA taxes, or roughly $150/month. I leave it to the reader to compare this value with the amount of carbon tax someone at this income level is likely to pay. If the carbon tax is higher, then we might need to have a small rebate, or an increase in the personal exemption to compensate. But the rebate would be smaller than needed to replace the income tax, and the amount of tax needed is less to start with. The odds of hitting the Laffer Curve limit are thus lower. Furthermore, the carbon tax hits the rich harder than FICA. Liberals should be happy.

One “problem” with using a carbon tax to replace FICA is that we would no longer have a record of how much money people put into the system.* I consider this a benefit. Government handouts should be for keeping poor people from suffering, not guaranteeing middle class lifestyles. With a carbon tax for funding, payouts become age based only. Social Security should be there to ensure a decent lower-class retirement. Those who want to do better should save.

And they could! A carbon tax is a consumption tax. Those who save consume less. A consumption tax has an implicit IRA feature built in. It eliminates the need for IRAs and 401(k) plans. We could thus simplify the income tax code. Also, this implicit IRA would not be a giveaway to Wall St.; some might use their savings to pay off debts, buy rental property or a local business.

A Win-Win Solution

As a replacement for FICA, a carbon tax has much to offer everyone.

For conservatives it is a significant tax simplification, albeit less so than if we used a carbon tax to replace the income tax. It reduces the trade deficit and improves national security. It partially gets the middle class off the dole; those who are able to be responsible gets tasked to act responsibly, to save, else learn to be poor in their old age.

For liberals we replace a regressive tax with a somewhat flat tax. We replace a payout based on income history with a purely age-based payout.

For anti-corporate progressives, we replace tax deferred savings plans that must go through Wall St. with an implicit tax deferral that could be used on Wall St. or Main St.

For environmentalists, we get significant cuts on CO2 emissions almost overnight, and create a market for bigger cuts through new technology in the no so far future.

Ah yes, the future. What do we do in the future after people replace carbon power with solar power?


*Note that we would still have payment records for those already retired or nearing retirement. Those people should be paid according to the old rules!

Next: The Future of the Carbon Tax

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