Carbon Tax in a Production Network: Propagation and Sectoral Incidence

We analyse the propagation of carbon taxation through input-output production networks. To do so, we use a static multi-sector general equilibrium model including France, the rest of the European Union and the rest of the world to simulate the impact of carbon tax scenarios on economic activity. We find that a tax increase on sectors' and households' greenhouse gas emissions corresponding to a carbon price of 100 euros per ton of carbon dioxide equivalent entails a decrease in French aggregate real value added by 1.2% at a 5-to10-year horizon when implemented in France only, vs. 1.5% when implemented in the whole EU. Impacts on sectoral real value added range from -20% to negligible. The most affected sectors are generally the most polluting ones, but the tax also propagates across sectors via intermediate inputs. Specifically, the network structure tends to affect comparatively more upstream sectors than downstream ones, given their taxation levels. International financial markets also play an important role by neutralizing the positive response of final demand that would result from the redistribution of the tax proceeds to domestic households.