America’s engineers and entrepreneurs are an innovative bunch. As lawmakers across the political spectrum commit to lowering carbon emissions to mitigate the impact of climate change, they should explore the best way to empower our innovators in the private sector with the proper incentives. But we cannot take for granted our role as top innovators without examining our performance against the rest of the world.
According to a 2019 report by the Information Technology and Innovation Foundation (ITIF), the U.S. led innovation of clean energy technologies when counting “high value climate change mitigation patent applications,” with Japan, Germany, and South Korea following.
The significant number of patents confirms the narrative of our innovation superiority. However, when the rankings are scaled against gross domestic product (GDP), the numbers tell a different story. Using a measure of patent applications per $1 billion of GDP invested, the rankings change quite a bit. South Korea, Japan, Denmark, Germany, and Finland rank top five. The U.S. ranks tenth, suggesting that, for the size of our economy, we are not making the same commitment to low-carbon innovation as nine other nations.
Contributing to this troubling ranking is the fact that the U.S. currently relies on a confusing patchwork of intermittent state and federal subsidies, mandates, and regulations to encourage development and deployment of clean energy in the U.S.
Policymakers hoping to encourage innovation should implement durable policies to give innovators and markets time to respond. They have three policy options to consider: a tax on emissions; regulations limiting or requiring certain technologies; or subsidies for preferred technologies.
Over the last two decades, many economists have suggested that a carbon tax would provide the best policy option to encourage innovation compared to regulations and subsidies. In his 2018 paper, “How Induced Innovation Lowers the Cost of a Carbon Tax,” Joe Kennedy, a senior researcher at ITIF, finds that putting a price on carbon would provide incentives for firms and individuals to invent or adopt less carbon-intensive technology that reduces costs and increases quality. Because these newer technologies will be cheaper than existing options, these carbon-efficient technologies will be more widely adopted, thereby reducing the cost of achieving a given amount of emission reductions.
Many organizations promoting an innovation-focused agenda typically endorse policies that simply expand the current patchwork of subsidies and regulations—policies that are more costly and distort or impede innovation.
Regulations and subsidies do modify behavior; however, they are suboptimal and reject free-market principles when compared to a price signal through a carbon tax. We have provided policymakers with a list of problems associated with regulations and subsidies. And Joe Kennedy’s analysis notes the impact that price signals can have on innovation:
A number of economic studies have tried to measure the responsiveness of innovation in the energy sector. … Most of these studies take advantage of the sharp increases in the price of energy that accompanied the oil crises of the 1970s and 1980s, and therefore give some indication of how energy technology might respond to a carbon tax.
With a concern for economic impact that higher prices would have on the economy, his analysis concludes:
Both logic and scholarly research point in a clear direction: A carbon tax at reasonable levels, with the revenues dedicated to reducing the after-tax cost of research and capital investment, is likely to not only reduce carbon emissions but do it in a way that grows the overall economy.
Similarly, Douglas Holtz-Eakin, president of the American Action Forum, noted in a January 2019 article that carbon taxes could replace a number of cumbersome regulations and incite innovation:
A well-designed carbon tax would replace the regulatory approach. It would involve federal pre-emption of carbon regulation under the Clean Air Act, Clean Water Act, Endangered Species Act, National Environmental Policy Act, and myriad other laws. The fact that carbon-intensive products would be relatively more expensive would give incentives to shift away from those products and to innovate products that have lower carbon content. If you have no faith in the power of economic incentives — that is, if you are part of the progressive left — you will not believe that the carbon tax will really work.
In spite of this growing body of research, political leaders in the U.S. are hesitant to embrace a carbon tax, fearing it will hamper economic growth. However, an examination of the nations that out-innovate the U.S. based on GDP and have a carbon tax (below) suggests that a price on emissions does not correspond with economic growth. But it may support the notion that there is a better way to encourage innovation.
| Country | Carbon Tax (or price) in $ | Real GDP growth 2019* |
| 1. S. Korea | $31 | 2% |
| 2. Japan | $2.65 | .7% |
| 3. Denmark | $26 | 2.4% |
| 4. Germany | $26 (ETS) | .6% |
| 5. Finland | $58-$68 | 1% |
| 6. Sweden | $123 | 1.2% |
| 7. Austria | $26 (ETS) | 1.6% |
| 8. France | $49 | 1.3% |
| 9. Netherlands | $26 (ETS) | 1.8% |
*Source: IMF DataMapper; the U.S.’s real GDP growth in 2019 was 2.3%
If policymakers want to embrace American ingenuity and promote our innovation potential, they should support innovative policies that leverage the full breadth and depth of the private sector.
While new tax regimes are understandably viewed with skepticism, regulations and subsidies are more costly, distort behavior, and limit innovation potential. Therefore, a carbon tax must be considered, as it can be leveraged to offset other taxes on savings, income, and investment and provide the kind of economic stimulus that will keep our economy on track.