Carbon pricing
Carbon pricing is an instrument that captures the external costs of greenhouse gas (GHG) emissions—the costs of emissions that the public pays for, such as damage to crops, health care costs from heat waves and droughts, and loss of property from flooding and sea level rise—and ties them to their sources through a price, usually in the form of a price on the carbon dioxide (CO2) emitted, referred to as the societal cost of carbon. A price on carbon helps shift the burden for the damage from GHG emissions back to those who are responsible for it and who can avoid it. Instead of dictating who should reduce emissions where and how, a carbon price provides an economic signal to emitters, and allows them to decide to either transform their activities and lower their emissions, or continue emitting and paying for their emissions. By integrating climate risks into business costs, carbon pricing aims to stimulate innovation as companies strive to reduce emissions.
Carbon pricing can take various forms, the two main mechanisms being the carbon tax and the Emissions Trading Scheme, under which “allowances” are issued and traded.
There is a growing consensus among both governments and businesses on the fundamental role of carbon pricing in the transition to a decarbonized economy. However, for this system to be effective, it is essential to set an appropriate carbon price and to cover a significant percentage of CO2 emissions, in order to encourage the development of clean technologies. On the other hand, a majority of countries still have no carbon tax or ETS. What’s more, some existing trading schemes have prices too low to be an incentive to promote low-carbon economic growth.