Economic Impacts of Meeting China’s NDC through Carbon Taxes with Alternative Schemes for Recycling Tax Revenues

As its Nationally Determined Contribution, China has committed to reduce the emission intensity of its economy by 65 percent below its 2005 level by 2030, to help achieve the objectives of the Paris Climate Agreement. This study examines the economywide impacts of meeting China’s commitment through various policy instruments, including administrative/regulatory mandates and carbon taxes with alternative revenue recycling schemes. The policy scenarios are simulated using a dynamic-recursive computable general equilibrium model calibrated with the latest available data (2017). The simulations show that Chinese gross domestic product in 2030 would be about 1 percent lower than that in the baseline if the country uses mandates to constrain national carbon dioxide emissions at its Nationally Determined Contribution target. The economic costs (loss of gross domestic product) of meeting the Nationally Determined Contribution target would be smaller than that in the carbon constraint case, no matter how the carbon tax revenues are recycled. The economic costs of the carbon tax would be lowest when the tax revenue is recycled to cut existing taxes on capital or corporate income. Recycling the carbon tax revenues to subsidize solar and wind electricity further helps reduce emissions; however, it causes higher economic costs than other recycling schemes. The results highlight the importance of proper design architecture for a carbon tax to make it more palatable to policy makers and taxpayers.