Green growth? evidence from energy taxes in Europe

Seán Lyons and Richard S J Tol discuss green growth in a new column at VoxEU.org. A quick summary:

Politicians around the world like to argue that ‘green growth’ will create jobs and stimulate innovation. This column examines the impact of energy taxes on business, with a dataset of 11 million European firms between 1996 and 2007. The results are mixed – it seems that dirty, smoke-filled growth may well be better for the firm’s workers and their customers.

Lyons and Tol discuss the impact of energy taxes on corporate behaviour.

We test four hypotheses:

• Do energy taxes create employment?
• Do energy taxes stimulate innovation?
• Do energy taxes increase profits?
• Do energy taxes raise investment?

What is the impact of energy taxes on employment by sector?

There are substantial sectoral differences. Most effects are statistically significant. Some sectors show a positive effect; notably wearing apparel, textiles, and primary-resource sectors. Labour, typically less skilled in these sectors, may be used as a substitute for energy. Air transport shows a strongly negative association, which may be spurious – the sample period coincides with the rise of the discount airlines. Other sectors exhibit weaker negative effects, notably machinery and construction. For these sectors, higher energy costs imply an overall contraction. For employment, the average effect is negative and significant. Overall, increased energy taxes reduce employment.

What is the impact on TFP growth rate by sector?

Sectoral variation is large. Primary resources, manufacturing, power generation, pulp and paper and the media sector all show a positive effect. Most of these sectors are energy-intensive. This suggests that higher energy costs forced these firms to innovate. However, energy taxes reduce input price variability and raise barriers to market entry; both could increase TFP as measured here. TFP in chemicals, textiles, wearing apparel, leather and quarrying shows a negative association with energy taxes. These sectors are in decline in Europe, and higher energy taxes seem to spur this trend. The average effect of a tax change on TFP growth is positive. Overall, higher energy taxes accelerate TFP growth in Europe.

What is the impact on the return on capital employed by sector?

This is positive in most cases, particularly for tobacco and air transport. Air transport is exempt from energy taxes. Higher energy taxes, however, imply a lower demand for energy and hence a lower price of kerosene. Higher energy taxes also reduce the price of air travel relative to road and rail. However, the effect may be partly spurious because of the restructuring of the airline industry. Water transport, wood products, quarrying, and refining have significant negative coefficients. Faced with higher energy costs, firms in these sectors take a hit on the bottom line. However, other firms see positive effects as they are able to pass on the higher costs to their customers and take advantage of improved productivity. The average effect is positive. Overall, higher energy taxes increase profitability in Europe.

What is the impact on corporate investment?

The tobacco sector again stands out, but this sector was in decline too for reasons other than energy taxes. It may be that energy taxes were raised faster in countries that reduced smoking most substantially. Textiles and plastics show a negative impact – these sectors substitute energy and capital for labour. In contrast, metal mining, gas extraction, basic metals, refining, and water transport have large positive coefficients. High energy taxes spur investment, we presume in primarily in energy-saving equipment. The average effect is positive. Overall, higher energy taxes spur investment in Europe.

The Lyons and Tol conclusion?

In sum, the following results emerge.

• First, results vary dramatically between sectors, both in size and in sign.
• Second, energy taxes reduce employment.
• Third, TFP accelerates with higher energy taxes.
• Fourth, energy taxes increase the returns to capital.
• Fifth, energy taxes increase investment.

Overall, these results provide only mixed support for the political ‘green growth’ agenda. Energy taxes appear to favour capital over labour. Innovation accelerates, but it may not be the type of innovation that spurs economic growth.