When Standards Have Better Distributional Consequences Than Carbon Taxes

Abstract

Carbon pricing is the efficient instrument to reduce emissions. Nevertheless, the geographical and sectoral coverage of substantial carbon pricing remains low, often due to concerns that it may increase economic inequality. Regulatory standards such as fuel economy standards are more popular. Could it be the case that they have an equity advantage over carbon pricing? We develop two formal models to identify economic situations in which standards have better distributional consequences. First, we prove that an efficiency standard can be more equitable than carbon pricing when consumers exhibit a preference for high-carbon technology attributes. Evidence from the US vehicle market confirms this finding. Second, we show theoretically, and by means of a numerical application to the Chinese transport sector, that intensity standards are preferable when richer households consume more goods with high carbon intensity. Our results hold when the revenue from carbon pricing is not very progressively redistributed. These insights may help advance decarbonisation when pricing remains unpopular.