Federal Carbon Tax May Cause Investors to Flee Canada, Study Shows

August 28, 2019 Updated: August 28, 2019

The federal carbon tax will cause production cost increases in key sectors, resulting in investors relocating to other countries such as the United States, a phenomenon known as “carbon leakage,” according to a new study by the Fraser Institute.

This means that while the firms would no longer be emitting in Canada, they would be increasing emissions in their new bases.

“The federal carbon tax will likely push investment, economic activity, and jobs out of Canada and into other countries, thus increasing emissions abroad,” said co-author Ross McKitrick, a professor of economics at the University of Guelph and senior fellow at the Fraser Institute.

The study, which examines the impact of the $50-per-tonne carbon tax coming into effect in 2022, says production cost increases among the hardest-hit sectors ranges from around 2.5 percent to 25 percent.

Industries that will have the highest cost increases include the petroleum and coal-product manufacturing sector, agriculture chemical manufacturing, basic chemical manufacturing, cement and concrete product manufacturing, and primary metal manufacturing.

Industries that are subject to high international competition will be particularly vulnerable because they can’t pass on the added costs to the customer, as that would make them less competitive. This includes industries such as aerospace product and parts manufacturing, electronic product manufacturing, and motor vehicle manufacturing, among others.

The federal carbon tax, applied in provinces that don’t have their own carbon tax system, started with $20 per tonne of emissions this year and will gradually increase to the limit of $50 per tonne in 2022. The scheme also has provisions for rebates to mitigate the impacts of the tax.

The study’s authors, however, say the tax rebates will not necessarily address the issue of loss of competitiveness for some firms.

“One of the points in our report was simply that the firms that have the most competitiveness risk aren’t necessarily going to be the ones that get the most compensation,” McKitrick said.

“In our analysis, rather than using the formula that the government has announced for how these compensation payments are going to work, we look at it from the firm’s point of view and how this affects the firm’s pricing decisions in the market.”

Epoch Times Photo
(Fraser Institute)

McKitrick uses an example in the concrete industry, an emission-intensive sector, to illustrate the point, with the hypothetical assumption that the first 600 tonnes of emissions out of a total 1,000 tonnes per year are tax-free under the rules.

“If your phone rings and somebody wants to order 100 units of concrete pipe for a construction project, and you have to decide, ‘am I going to take into account the carbon tax?’ Well, yes, because that’s an order that’s surpassed your exemption limit, so you’re paying the tax. You have to factor that into the price that you charge, so that’s where the competitiveness impact comes from,” he said.

“The rebate that you get on those first 600 tonnes of emissions is just going to be like getting a handout—a lottery windfall. It won’t really affect your pricing decisions, it’s just going to be something that goes into your revenue stream and affects your profit.”

There has already been empirical evidence on the impacts of the carbon tax in B.C., which has been in place since 2008, the study authors say. Employment has declined in the more capital-incentive sectors while workers have moved to more labour-intensive sectors such as retail, where income tends to be lower.

“In the case of the B.C. carbon tax, there was also initially reduction in income taxes to make it revenue-neutral. But the government has since departed from that. They’re now using a lot of their revenues to fund other programs and certain tax credits and things like that,” McKitrick said.

He adds that since the tax came into effect right around the time of the global financial crisis, and because since then there have been other obstacles for industry projects, such as challenges getting pipelines into the province due to protests, it’s hard to pinpoint if loss of investment in the province is due to the carbon tax or other factors.

Getting a Full Picture

The authors note in the study that the model used by Environment Canada for its economic assessment of the carbon tax does not account for the fact that investment could move across Canadian regions or even across the border.

“Environment Canada’s modelling work is based on an assumption that capital remains fixed as a result of the carbon tax. Therefore, their modelling work understates the negative impacts of the carbon tax,” said co-author Elmira Aliakbari, director of Natural Resource Studies at the Fraser Institute.

The Epoch Times asked Environment Canada to comment, but no response was provided.

McKitrick said there are a number of other assessments that the government needs to be doing in order to get a full picture of the economic impact of the carbon tax. These include looking into impacts on wage rates and income changes in different sectors, and how rates of return in different parts of the country will be affected by the tax.

“When you have a policy like this across a number of important sectors, it’s going to potentially reduce the rate of return, or even just take a few percentage points off it. We should have an idea of how that is going to compare to comparable sectors in the U.S. and other competitor regions,” he said.

The study notes that as energy gets more costly and energy-intensive sectors lower their output, demand for labour in those sectors declines, and as workers go to other sectors for employment, the oversupply of labour drives down wages in those other sectors as well.

McKitrick said he hopes the report will help the government see that the compensation scheme it has designed will not eliminate the competitiveness risk for industry. He also hopes the report will point out sectors that are more at risk as a result of the carbon tax policy.

“We can identify the sectors that are most at risk, so those are the ones that the government needs to be aware of. And if there are regions where there’s a concentration of industries in those groups, then that region is at risk,” he said.

Aliakbari adds that she wants policy-makers to recognize the “serious competitiveness risk” that many sectors will be faced with as a result of the carbon tax.

“The loss of competitiveness could ultimately mean an exodus of economic activities out of Canada, meaning less prosperity for Canadians,” she said.

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