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In May 2009 the Chartered Institute of Taxation issued its ‘Green Tax Report’. This included seven chapters by different contributors, examining the issues from a variety of perspectives and making a convincing case for the importance of addressing the challenges and opportunities of environmental taxation.

The present paper represents a personal response to the report, and seeks to build on it by exploring how some of its ideas may be developed into an agenda for change.

The urgency of a problem is sometimes conveyed by saying that ‘Doing nothing is not an option’. Strictly speaking, doing nothing about environmental issues is an option, and unfortunately one that a number of countries have chosen. What is not an option, however, is maintaining the status quo. Whatever choices governments make, and even if they choose to do nothing, the cost and availability of fossil fuels will inevitably change, as scarce resources are consumed. The question governments must address is whether that increased cost and declining availability are going to be part of a managed process of transfer to other energy sources, contributing to a sustainable economy, or whether the populations for which they have responsibility are simply to be the victims of unrestrained economic forces. If they choose to implement a managed process this is likely to include elements of regulation, carbon trading and environmental taxation.

3 THE NEED FOR GLOBAL ACTION

A government imposing environmental taxes as part of a managed process is likely to have a dual objective: (i) to raise revenue, either in addition to existing resources or in order to finance the reduction of conventional taxes; and (ii) to change taxpayers’ behaviour – discouraging activities that harm the environment and encouraging those that protect it (or, more realistically perhaps, encouraging those that harm it less). However, these objectives are not achieved if the change in behaviour amounts to no more than moving the harmful activity outside the relevant jurisdiction to an alternative location with a lower tax burden.

In these circumstances the revenue-raising objective is frustrated altogether and there will normally be further disadvantages from the fall in economic activity in the state concerned. The second objective (environmental protection) may still be achieved, but only in the narrow sense that the local environment is preserved; the harm resulting from the activity in question will merely be transferred elsewhere. Indeed, if the alternative jurisdiction is less well regulated than the original one, the change of location may result in the adoption of less environmentally friendly processes and an overall increase in environmental damage. Where the environmental harm in question is the emission of CO2, leading to global warming which takes no account of national boundaries, no benefit will arise to the local environment from the change in location of the activity, and the original jurisdiction will thus have foregone tax revenue in return for no advantage whatever.

Tax measures that simply ‘export the problem’ by driving activity to other jurisdictions may be unacceptable to governments on ethical or political grounds, or simply because of the loss of economic activity that is involved. As a practical matter governments may also fear that if they adopt this approach they may find themselves on the receiving end of similar action from other states, either as a matter of deliberate retaliation or as a result of contributing to a ‘culture of selfishness’.

These factors point to the need for co-ordinated action on a multinational basis. That is not to say that exactly the same environmental tax regime must be implemented in every jurisdiction whatever its particular circumstances, but that ideally national tax regimes should interact in such a way that, taken together, they contribute to achieving agreed environmental goals and do not have the effect simply of shifting pollution from place to place.

Clearly, there is no supra-national body that has power to impose such a co-ordinated tax system on individual states. Some might consider it desirable from a political point of view that there should be, while others will not. A practical consideration, however, is that an imposed set of rules, however welcome or unwelcome in principle, will only achieve the desired objective if it is the right set of rules, and the difficulties in the way of devising a global set of rules that takes account of all local circumstances are formidable. Similarly, altering such rules in a timely way to deal with changed circumstances might also pose significant administrative problems.

A different, and highly successful, pattern of international co-ordination is provided by the existing network of double tax treaties, where a model treaty is published (and updated in line with changing commercial practices) by the OECD, but individual treaties are entered into as a result of bilateral negotiations between independent states who are free to make changes to that model as appropriate to suit their particular circumstances and preferences.

The parallels are not exact because double tax treaties leave individual states with unfettered freedom as regards their own internal rules, imposing constraints only in those circumstances where the rules of different states come into conflict. For environmental taxes, by contrast, the requirement is for a greater measure of consistency as between countries’ own internal systems. Nevertheless, the precedent of the double tax treaty network suggests that a system of non-mandatory guidelines forming the basis for negotiations might provide a workable way forward in achieving greater international co-operation. Moves on the part of relevant international organisations to draft such guidelines might therefore be very welcome, provided they involved full consultation with interested parties.

For some environmental issues it will be sufficient to put in place bilateral agreements ensuring consistency of treatment between neighbouring states, so that there is no tax benefit available to taxpayers for taking action that is environmentally detrimental to the two states considered as a unit. For other issues it may be the case that all countries in a particular region, or all countries involved in certain activities, need to reach agreement if the objectives are to be achieved. Clearly negotiating such multilateral agreements is a more complex undertaking, and it may be that the most efficient way forward in some cases is to reach agreement on a common approach within established groups of nations such as the European Union, and then for such blocs to negotiate with each other. Such an approach requires some compromise on the part of individual states, and some objections may be raised on the basis of the loss of sovereignty involved. An alternative view might suggest that entering into such

treaties does not involve giving up sovereignty but exercising it, in exactly the same way that (assuming the correct choices are made) a company entering into a contract is not fettering its commercial opportunities but making use of them. For those who do not find this approach convincing, a more straightforward argument might be that the matters at stake are so significant that some loss of sovereignty is a price worth paying.

4 DAMAGE LIMITATION OR POSITIVE OPPORTUNITIES

What areas might be covered by international guidelines? Many of the environmental tax measures currently in place in different jurisdictions involve discouraging the use of fossil fuels, and the consequent emissions of CO2, by increasing the cost of the activity in question (a ‘stick’ rather than a ‘carrot’). Companies are thus encouraged to seek less expensive options: by eliminating waste, increasing efficiency, finding alternative processes, or simply abandoning the relevant commercial activities altogether. In effect, the answer governments give to the question, ‘How will companies cope with these increased costs?’ is ‘They will find a way, because if they do not they will not survive’.

Such an approach cannot be dismissed, because without doubt it is frequently effective in discouraging undesirable behaviour. It also meets governments’ legitimate need for revenue to finance public expenditure. However, it has a ‘hit and miss’ element about it. Businesses may move from one undesirable pattern of behaviour to a marginally less undesirable one, until that too incurs the displeasure of the government concerned and they are forced to move on to the next stage. This ‘trial and error’ approach may be inefficient both from an economic and an environmental point of view. It may therefore be that the incentivising of positive behaviour via the tax system, rather than simply discouraging negative behaviour, lends itself more readily to use in a co-ordinated national (and international) strategy for addressing environmental issues, because it eliminates these inefficiencies by promoting particular pre-identified patterns of desirable activity rather than simply discouraging undesirable ones.

Such a use of incentives to positive behaviour is not, however, without disadvantages. First, the patterns of positive behaviour stipulated will of necessity be chosen by governments, albeit perhaps with advice from industry. Opinions may differ on whether the chosen objectives are the most suitable. By contrast, where the tax system merely discourages negative behaviour, the alternative patterns adopted are chosen, effectively, by the application of market forces. Again, opinions may differ on whether or not this is an appropriate mechanism for guiding national environmental strategy.

Secondly, the incentivising of positive behaviour, for example by giving allowances for set categories of expenditure, does not raise any revenue for the government – which is arguably the primary purpose of taxation. Indeed, it has a cost in terms of tax foregone.

A third factor is that while these two approaches can readily be distinguished in theory, in practice it is not always entirely clear which category a particular measure falls into. For example, the introduction of a reduced rate of excise duty for ultra-low sulphur petrol, as compared to ordinary unleaded petrol, may be seen either as an incentive to purchase the former or as a disincentive to purchase the latter. It may also be perceived slightly differently if the differential is introduced not by reducing the rate on the former but by exempting it from an increase imposed on the latter.

Generalisations are difficult, therefore, but perhaps it is relatively uncontentious to suggest that in those cases where behavioural change rather than revenue raising is a government’s

primary concern it is always worth giving serious consideration to whether it is possible to devise positive incentives to ‘good’ behaviour rather than simply imposing a blanket tax on ‘bad’ behaviour.

Such positive incentives may take the form, as indicated above, of tax allowances for expenditure on plant or machinery that is less damaging to the environment, or of exemptions or reduced charges for certain income streams (for example, from the sale of solar powered energy). They can thus be carefully targeted. A further possibility is the giving of allowances for expenditure on research that is directed to improving environmental performance. Here it is harder to target the relief precisely. It may be made to depend on the declared objectives of the research, or on the nature of the particular activities undertaken. If it takes the latter form, however, the government is effectively prescribing what will be the most fruitful approach to research in an area where, by definition, precise scientific knowledge is as yet unavailable. If, on the other hand, relief depends solely on the objectives, with no constraints on the activities, there is perhaps an increased risk that financial assistance will be given for activities that ultimately yield no benefit. That is, of course, a risk with any sort of relief for research, but here there is a further risk that the government may end up financing activities that produce economic benefits to the organisation concerned without any corresponding environmental benefits to society.

5 A WIN-WIN SITUATION?

Sometimes an environmentally responsible pattern of behaviour is expensive; for example, if it involves a business in additional expenditure in order to limit pollution, noise levels or excessive use of relatively cheap but limited fossil fuels. However, when the negative effects of the pollution on society as a whole are considered the expenditure incurred may not appear disproportionate. Indeed, one of the rationales of environmental taxation is to internalise these ‘negative externalities’ in pursuit of the ‘polluter pays’ principle; its function is to allocate the economic damage appropriately in the hope that this will encourage more responsible behaviour.

In other cases, however, the change in behaviour may result in an economic benefit to the business concerned rather than an increased cost (or at least in a countervailing benefit to set against the cost); for example, where the desired environmental benefits are brought about by reduced use of expensive fossil fuels. Such economic benefits are not a feature associated particularly with either the approach that deters ‘bad’ behaviour or that which gives positive incentives for ‘good’ behaviour; either may produce such benefits if its outcome is that more fuel-efficient procedures are implemented. However, a possible advantage of the ‘positive incentive’ approach is that it appears to be more likely directly to stimulate new economic activity, whereas taxes on environmentally damaging behaviour may have the effect not of diverting economic activity into other paths (as intended) but of deterring businesses from such activity altogether.

6 CONCLUSION

This paper concludes, then, that action to combat climate change will almost always include some environmental taxation measures, and that these are more likely to be effective if implemented on an international basis – not by imposed solutions agreed by supranational bodies, but by carefully negotiated co-operation between affected countries and trading blocs,

with the assistance of guidelines based on careful consultation. The paper does not prescribe the wholesale use of positive inducements to ‘good’ behaviour as opposed to tax measures that deter ‘bad’ behaviour, but it does suggest that the former have certain advantages which mean that they should always be considered. It also suggests that, far from always being a burden on business, environmental taxes may have the positive economic benefit of encouraging efficiency, in addition to protecting the environment.