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How to Make a Carbon Club Work

The Canadian system is a promising—and politically palatable—prototype for other large emitters.

By , a freelance international affairs reporter based in Montreal.
Canadian Prime Minister Justin Trudeau speaks at the U.N. Climate Change Conference in Glasgow, 
Scotland, on Nov. 1, 2021.
Canadian Prime Minister Justin Trudeau speaks at the U.N. Climate Change Conference in Glasgow, Scotland, on Nov. 1, 2021.
Canadian Prime Minister Justin Trudeau speaks at the U.N. Climate Change Conference in Glasgow, Scotland, on Nov. 1, 2021. Ian Forsyth/Getty Images

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The United Nations climate change conference in Glasgow, Scotland—known as COP26—closed on Nov. 13 with a new climate agreement: the Glasgow Climate Pact. The pact reaffirms the global community’s commitment to limiting warming to 1.5 degrees Celsius and includes commitments to reduce methane, end deforestation, and support the countries most impacted by climate change.

But like most international agreements, the pact lacks an enforcement mechanism. States are strongly encouraged to reduce emissions, but they can’t be forced to do so, and if they fall short of targets, there will be few repercussions—if any. As a result, some experts are putting their money on economic rather than political solutions to the climate crisis.

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The United Nations climate change conference in Glasgow, Scotland—known as COP26—closed on Nov. 13 with a new climate agreement: the Glasgow Climate Pact. The pact reaffirms the global community’s commitment to limiting warming to 1.5 degrees Celsius and includes commitments to reduce methane, end deforestation, and support the countries most impacted by climate change.

But like most international agreements, the pact lacks an enforcement mechanism. States are strongly encouraged to reduce emissions, but they can’t be forced to do so, and if they fall short of targets, there will be few repercussions—if any. As a result, some experts are putting their money on economic rather than political solutions to the climate crisis.

 

One of them is “club theory,” popularized by Nobel Prize-winning economist William Nordhaus in 2015. The “club” is a group of countries wherein members adhere to a common carbon tax or “price on pollution.” Nonmember countries are subjected to a 3 percent tariff on products they sell to members, incentivizing them to join. To date, more than 3,600 economists have signed a statement saying carbon taxes are the most “cost-effective lever to reduce carbon emissions.”

The idea has come up several times this year in political and academic circles alike. In May, German Finance Minister and likely next chancellor Olaf Scholz said he wanted the European Union to create a “climate club” with countries like the United States and Japan, setting common carbon standards to avoid trade friction.

But the question of who should be included in the club has long been a point of contention. The Nordhaus model advocates a club any country can join, but critics say this asks too much of developing nations, which won’t be able to afford the prohibitively high carbon price set by wealthy countries.

A new proposal seeks to address this issue. In June, experts at the International Monetary Fund (IMF) proposed an International Carbon Price Floor Among Large Emitters, a club they believe innovates on the Nordhaus model. The new plan focuses on a core group of large emitters and suggests adopting a minimum carbon price floor with flexibility for developing countries.

“India’s not going to join if they’re expected to impose the same carbon price as the EU,” Ian Parry, environmental policy expert and co-author of the report, told Foreign Policy. “It’s reasonable that developed countries would be subject to higher price requirements.”


Canada has emerged as an early champion of the IMF’s revised club theory. At COP26, Canadian Prime Minister Justin Trudeau advocated for a “shared minimum standard for pricing pollution.”

The country has adopted a model that could be replicated in other major fuel-exporting countries should the IMF plan gain traction globally. “Canada is ahead of most other jurisdictions in terms of carbon pricing,” Parry said. “There is a lot to commend in what they’re doing.”

Nordhaus agrees. In a podcast by the Financial Post, he said “Canada has really moved to the forefront of carbon pricing with its tax and rebate plan. … This is the plan that’s got both environmental effectiveness and the political glue needed to hold it together.”

It may strike some as unusual that Canada, the world’s fourth largest oil producer, has emerged as a leader in carbon pricing. The issue remains contentious among some political and industry leaders, but Canada’s system has stood firm thanks to continuous Liberal Party governance, strong federal regulations, and low consumer costs. To date, Canada is the only country with a major fossil fuel industry to successfully adopt a nationwide carbon pricing plan.

The Canadian system would be a promising prototype for other large emitters that could adopt similar models domestically. First implemented in 2019, the carbon price when converted from Canadian to U.S. dollars is currently set at about $32 per metric ton and will increase to almost $40 per metric ton in 2022. From there, it will increase by around $12 every year until it reaches $134 per metric ton by 2030.

Canada is the only country with a major fossil fuel industry to successfully adopt a nationwide carbon pricing plan.

The Canadian plan also has high emissions coverage, which refers to the share of household and industry emissions subject to the carbon price. In Canada, this stands at 78 percent, according to an independent expert review.

To support the decarbonization process, Canada has committed $11.8 billion in investments in renewable energy, grid modernization, and incentives for zero-emission vehicles. Taken together, these steps are set to cut the country’s emissions by a third by 2030. The Toronto-based think tank Clean Prosperity said Canada has a reasonable chance of meeting its current goal of a 40 to 45 percent emissions reduction by 2030 if the government’s plans are implemented in full.

When asked about the Canadian strategy, Nobel Prize-winning economist Joseph Stiglitz told Foreign Policy: “It seems to be the kind of approach that I’ve advocated. You use multiple instruments: regulations, price incentives, investments, and quantity constraints, with a lot of flexibility for different provinces to adapt the system to their own circumstances.”

Four key elements set Canada’s plan apart: provincial flexibility, tax rebates to households, predictable increases, and measures to protect industry competitiveness.

The carbon price is federally mandated, but provinces have flexibility in how they choose to meet it. In fact, they’ve been encouraged to create their own carbon pricing systems in line with their unique priorities: Provinces like Québec use emissions trading systems while others, such as British Columbia, have carbon taxes. If a province chooses not to implement its own system or presents a plan that doesn’t meet the minimum, the default carbon pricing plan, known as the “federal carbon backstop,” kicks in—an almost $32 per metric ton carbon tax and an emissions cap for large industrial emitters called the Output-Based Pricing System (OBPS).

In addition, 90 percent of revenues from the Canadian carbon tax rebate back to households through direct payments after they file their annual tax returns, which means individuals end up receiving more in rebates than they would lose through the tax. “That helps to address concerns about burdens on households and build public support for the program,” Parry said.

Tom Green, a senior climate policy advisor with the David Suzuki Foundation, an environmental nonprofit, said the predictability and stability of Canada’s plan enables people to better plan for the future. Knowing they will pay more in taxes if they continue to rely on carbon-heavy technologies means they will pivot to greener alternatives. “If I have to replace my furnace and I see the price going to [CA]$170, I might as well put in a heat pump and avoid that altogether,” Green said.

A key concern about carbon pricing is it could make domestic industries less competitive compared to international firms not subject to a price. The OBPS helps mitigate this risk. Those who bypass its limit must pay for their excess emissions. Critics have said this is too lax on industry.

So in the fall of 2020, Canada announced its intention to explore border carbon adjustments (BCAs), which are tariffs on carbon-heavy imports. In countries with a carbon pricing system, BCAs are widely seen as the most effective method to preserve competitiveness of domestic industries.


Canada’s road to carbon pricing has not been easy. During the 2015 election campaign, Liberal Party leader Justin Trudeau promised to implement a carbon pricing plan, which he introduced in 2016 after becoming prime minister. In the 2019 Alberta general elections, the United Conservative Party under party leader Jason Kenney campaigned on eliminating the provincial carbon tax—and then did so. Ontario did the same. Once Progressive Conservative Premier Doug Ford came to power, he pulled out of the Québec-California cap-and-trade program that Ontario had been a part of.

Amid all of this instability, the federal carbon backstop held firm, and in April 2019, the federal Liberal Party government instituted a carbon tax in four provinces—Ontario, Manitoba, New Brunswick, and Saskatchewan—where governments had opposed the policy.

The dispute came to a head in March. Alberta, Saskatchewan, and Ontario challenged the tax in Canada’s Supreme Court, arguing it represented an unconstitutional intrusion on the rights of provinces. They lost. Emissions caused harm beyond provincial borders, the court said, and a carbon price was in the best interests of Canada as a whole. Kenney said his government was “obviously disappointed” with the decision, since the plan would increase costs for Albertans and inhibit oil companies’ ability to compete. He vowed to “continue to fight to defend our exclusive provincial power to regulate our resource industries.”

Provincially, rhetoric on carbon pricing is in constant flux, simultaneously hailed and hated by politicians. But no matter how much they push back, provinces are held accountable by the federal carbon backstop—which allows for consistency nationwide. And carbon pricing now enjoys bipartisan support: If elected on a federal level, Conservatives plan to tweak the current plan but will not get rid of it entirely.

Canada’s experience offers valuable lessons for other large emitters, such as the United States and Australia, on how to implement a carbon pricing system in face of domestic pushback.

Australia, one of the world’s largest energy exporters and consumers, introduced a carbon price as part of its 2011 Clean Energy Act. The measure was unpopular among Australians and increased living costs for households by about $7.12 per week. And roughly 50 percent of tax revenue rebated back to households, compared to 90 percent in Canada.

The act raised prices for businesses too, causing factory closures and job losses. (One CEO reported having to pay $5.8 million a year for the carbon tax.) Unlike the Canadian plan, Australia’s plan did not offer stability and federal consistency, as it was based around a three-year carbon price that would then transition into an emissions trading system. It was repealed in 2014.

Australian Prime Minister Scott Morrison recently released a plan to get Australia to net-zero carbon emissions by 2050. The road map does not include carbon pricing. In fact, Morrison’s accompanying press release reads, “we won’t introduce a carbon tax that drives Australian jobs overseas and punishes the most vulnerable in our community through higher prices for electricity and other essentials.”

Closer to home, the United States is also struggling to take meaningful action on climate. The country shares Canada’s status as a federated state and major fuel exporter, but carbon pricing has yet to take root.

Over the past few years, the U.S. Congress has considered several bills that would put a price on carbon. Cap-and-trade has caught on as a regional policy, with several states—such as California, New York, and Massachusetts—forming a coalition. But resistance to carbon pricing remains high; there are concerns about an increase in energy prices and subsequent rise in costs for low- and middle-class Americans, as in Australia. Consequently, U.S. President Joe Biden’s climate pitch at COP26 stressed clean technologies but made no mention of carbon pricing.

Stiglitz told Foreign Policy that “the cooperation of the United States is absolutely pivotal” in global climate action. In the long run, he said carbon pricing will actually improve economic activity, spurring innovation by forcing a shift from fossil fuels to renewable energy. Here, cross-border cooperation on carbon pricing through a modified climate club—perhaps of the IMF’s mold—is imperative. The world’s largest emitters, including the United States, could convene to negotiate a common minimum carbon price and implement effective domestic plans in line with the Canadian model. Lower-income nations could also join but would be subject to a different minimum price—one that is appropriate for their stage of development.

Alternative pathways to carbon neutrality do exist: Some experts propose we trap emissions and bury them underground while others suggest sucking the carbon directly out of the sky. The most radical solution by far, however, is inaction.

This article appears in the Spring 2022 print issue. Subscribe now to support our journalism and get unlimited access to FP.

Marisa Coulton is a freelance international affairs reporter based in Montreal. She holds a Master of Journalism and Master of International Affairs from Columbia University. Twitter: @marisacoulton

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