A New OECD Report has noted that taxes are effective at cutting harmful emissions from energy use, but governments could make better use of them. Greater reliance on energy taxation is needed to strengthen efforts to tackle the principal source of both greenhouse gas emissions and air pollution.

Taxing Energy Use 2018 describes patterns of energy taxation in 42 OECD and G20 countries (representing approximately 80% of global energy use), by fuels and sectors over the 2012-2015 period.

New data shows that energy taxes remain poorly aligned with the negative side effects of energy use. Taxes provide only limited incentives to reduce energy use, improve energy efficiency and drive a shift towards less harmful forms of energy. Emissions trading systems, which are not discussed in this publication, but are included in the OECD’s Effective Carbon Rates, are having little impact on this broad picture.

“Comparing taxes between 2012 and 2015 yields a disconcerting result,” said OECD Secretary-General Angel Gurría. “Efforts have been made, or are underway, in several jurisdictions to apply the ‘polluter-pays’ principle, but on the whole progress towards the more effective use of taxes to cut harmful emissions is slow and piecemeal. Governments should do more and better.”

In 2015, outside of road transport, 81% of emissions were untaxed, according to the report. Tax rates were below the low-end estimate of climate costs (EUR 30/tCO2) for 97% of emissions.

Meaningful tax rate increases have largely been limited to the road sector. Fuel tax reforms in some large low-to-middle income economies have increased the share of emissions taxed above climate costs from 46% in 2012 to 50% in 2015. Encouragingly, some countries are removing lower tax rates on diesel compared to gasoline. However, fuel tax rates remain well below the levels needed to cover non-climate external costs in nearly all countries.

Coal, characterised by high levels of harmful emissions and accounting for almost half of carbon emissions from energy use in the 42 countries, is taxed at the lowest rates or fully untaxed in almost all countries.

While the intense debate on carbon taxation has sparked action in some countries, actual carbon tax rates remain low. Carbon tax coverage increased from 1% to 6% in 2015, but carbon taxes reflect climate costs for just 0.3% of emissions. Excise taxes dominate overall tax rates by far.

“The damage to climate and air quality resulting from fossil fuel combustion can be contained, but the longer action is delayed the more difficult and expensive it becomes to tackle this challenge,” Mr Gurría said. “Aligning energy prices with the costs of climate change and air pollution is a core element of cost-effective policy, and vast improvements are urgently needed. While in some cases compensation for higher energy costs faced by households or firms may be deemed necessary, especially to those more vulnerable, lower tax rates or exemptions are not the way to provide it – targeted transfers should be favoured.”