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The Visible Hand
Walking the carbon tax tightrope
Event
The Australian government announced the details of the carbon tax to be
introduced in July 2012.
Impact
It is very likely that the carbon tax and the associated policy changes
announced by the government will be at the centre of the next election
campaign.
Yet there are some significant political risks for the government. One of the
most important is the assumption that inflation will only rise slightly and that
household living standards will not suffer a large hit.
Encouraging competition is likely to be one policy response. It probably also
means acceptance of a strong A$ both to suppress inflationary pressures and
discourage monetary tightening by the RBA.
Analysis
As any tightrope walker knows, balance is critical. The Australian government
has commenced a highwire act with the details of the carbon tax and whether
or not it has got the balance right will be critical for its chances of winning the
next election.
Winning the debate will not be easy because of the complexities of the policy
changes. The combination of environmental, taxation and industry reforms
would make this a difficult political “sell” at any time.
In addition there are some risks in the policies that could bring the
government unstuck if some of the assumptions prove to be wrong.
One of the biggest risks is the fact that the compensation is fixed but the price
adjustments are variable. Modelling of the likely inflationary consequences of
the carbon tax is the best that can be done at the moment. But there is
certainly no guarantee that the results will be close to the forecasts.
There is an assumption in the forecasts that inflation will only rise slightly. The
impact is assumed to be much less than the jump that followed the
introduction of the GST in 2000 and relatively low compared to the average
inflation rate of the past decade.
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