Exclusive Commentary

Protecting the Poor while Fighting Global Warming, By Chad Stone, Chief Economist, and Hannah Shaw, Research Assistant, the Center on Budget and Policy Priorities

- Posted March 29, 2010


Protecting the Poor while Fighting Global Warming

By Chad Stone, Chief Economist, and Hannah Shaw, Research Assistant, the Center on Budget and Policy Priorities

The U.S. Congress is debating climate legislation designed to change dramatically the way we produce and consume energy. That legislation is motivated by a broad scientific consensus that continuing to rely heavily on fossil fuels to meet our energy needs will have costly and potentially catastrophic consequences for the environment and for the economy. Low-income people have a stake in fighting global warming because they will feel those consequences acutely, but they also have a stake in how policies to fight global warming are designed.

Effective legislation to fight global warming raises the price of energy and energy-intensive products. That puts additional strain on low-income households’ budgets, which are already stretched to the limit or beyond. If policymakers don’t provide relief from this additional budget hit, the result would be significantly more hardship, with the legislation pushing more families into poverty and making many of those who already are poor still poorer.

Fortunately, it is possible to design policies that fight global warming while protecting low-income consumers. The Waxman-Markey legislation passed by the House of Representatives this spring (H.R. 2454, the American Clean Energy and Security Act of 2009) illustrates how. The low-income energy refund in this legislation ensures that the average household in the poorest 20 percent of the population is not made worse off due to the higher energy prices needed to fight global warming effectively.

The Impact of Emissions Restrictions on Low-Income Households

Fighting global warming requires policies that significantly restrict greenhouse gas emissions. Current legislative proposals put a limit (or "cap") on the overall amount of greenhouse gases mainly carbon dioxide from the burning of fossil fuels that businesses are allowed to emit each year. Electric power plants, oil refineries, and other firms responsible for emissions of carbon dioxide and other greenhouse gases are then required to purchase permits (called allowances) for each ton of greenhouse gas pollution they emit. The number of allowances is capped at an amount below business-as-usual emissions levels, forcing companies to find ways to reduce their emissions to the capped amount.

As a result of the cost to companies of obtaining scarce emissions allowances and the cost of reducing emissions to the capped level, the price of fossil-fuel energy products from home energy and gasoline to food and other goods and services with significant energy inputs will rise. Those higher prices will create incentives, sometimes referred to as a “price signal,” for energy efficiency and conservation measures and for the development and increased use of clean energy alternatives. But they will also put a squeeze on consumers’ budgets, and low-income consumers will feel the squeeze most acutely.

The impact of higher prices for energy and energy-intensive products is smaller in dollar terms for lower-income households than it is for higher-income households—because low-income households don’t spend as much to begin with. As a share of their income, however, the impact is substantially greater for low-income households (see Figure 1). 

FIGURE 1:

Without Assistance, Low-Income Households Would Bear Disproportionate Costs

from Climate Legislation

Source: Congressional Budget Office

These people are vulnerable not only because they spend a larger share of their budgets on necessities like energy than do better-off consumers, but also because they already face challenges making ends meet and are the people least able to afford purchases of new, more energy-efficient automobiles, heating systems, and appliances. That’s why it is vital that climate change legislation include low-income protections.

Protecting the budgets of low-income households does not mean that those households should be exempt from doing their share to reduce emissions. But it does mean that they should not have to face additional financial hardship in the process. The key is to design policies that draw on the revenue that is available from the sale of emissions allowances to finance refunds that preserve both the purchasing power of low-income households and the price signal that encourages energy-saving behavior by all households.

Designing Appropriate Low-Income Consumer Relief

Much of the Center on Budget and Policy Priorities’ work on climate change policy has focused on developing concrete proposals to protect the budgets of low- and moderate-income consumers in a way that is effective in reaching these households, efficient (with low administrative costs), and consistent with energy conservation goals. Our work has been guided by the following six principles:

Protect the most vulnerable households. Climate change legislation should not make poor families poorer or push more people into poverty. To avoid that outcome, climate refunds should be designed to fully offset higher energy-related costs for vulnerable segments of the population.

Use mechanisms that reach all or nearly all eligible households. Eligible working households could receive a climate refund through the tax code, via a refundable tax credit. But many other households are elderly, unemployed (especially during recessions), or have serious disabilities and are not in the tax system. Climate refunds need to reach these households as well. Hence, the primary mechanism for reaching low-income households should be a broad mechanism that does not rely on the tax code.

Minimize red tape. Funds set aside for consumer relief should go to intended beneficiaries, not to excessive administrative costs or profits. Accordingly, policymakers should provide assistance to the greatest degree possible through existing, proven delivery mechanisms rather than new public or private bureaucracies.

Adjust for family size. Larger households should receive more help than smaller households because they have higher expenses. Families with several children will generally consume more energy, and consequently face larger burdens from increased energy costs, than individuals living alone. Various other tax benefits and means-tested assistance vary by household size; this one should as well.

Do not focus solely on utility bills. For low- and middle-income households, higher home energy prices will account for less than half of the total hit to their budgets from a cap-and-trade system. This is because goods and services across the economy use energy as an input or for transportation to market. Furthermore, about a fifth of the households in the bottom 20 percent of the income spectrum have their utility costs reflected in their rent, rather than paying utilities directly. Policymakers should structure climate refunds so they can help such families with the rent increases they will face as a result of climate policies, as well as with the higher prices that households will incur for gasoline and other products and services that are sensitive to energy costs.

Preserve economic incentives to reduce energy use efficiently. Broad-based consumer relief should provide benefits to consumers to offset higher costs while still ensuring that consumers face the right price incentives in the marketplace and reduce fossil-fuel energy consumption accordingly. A consumer relief policy that suppresses price increases in one sector, such as electricity, would be inefficient, because it would blunt incentives to reduce fossil fuel use in that sector. That would keep electricity demand elevated relative to what it would be if consumers saw electricity prices rise, and it would place a greater burden on other sectors and energy sources to provide the emissions reductions the cap requires. The result would be that emissions reductions would be more costly to achieve overall and allowance prices would be higher. Consumers might pay less for electricity, but prices would rise still more for other items.

With these goals in mind, the Center designed an “energy refund” that would efficiently offset the average impact of higher energy-related prices on low- and moderate-income households. That refund would be delivered each month to very low-income households through state Electronic Benefit Transfer (EBT) systems, which are essentially debit card systems that states already use to provide food stamps, TANF, and other forms of assistance to low-income families, the elderly, and others. The EBT mechanism is the centerpiece of an energy refund proposal because of its unique ability to reach large numbers of low-income households (including those that are outside the tax system). Proposals to reach low-income working households and others farther up the income scale need to rely on additional mechanisms, particularly refundable tax credits.

Low-Income Consumer Protection in Recent Legislation

The climate bill passed by the House provides robust protection to low-income households consistent with these principles. The bill uses proceeds from the sale of 15 percent of the emissions allowances to reimburse low-income households for the higher costs they will face for energy and energy-intensive goods and services under the bill. This low-income assistance is in addition to relief that would be provided to all consumers, regardless of income, by provisions in the bill that give free emissions allowances to retail electric and gas companies (called local distribution companies, or LDCs) for the purpose of providing their customers with relief on their utility bills.

Under the House bill, low-income families with children, seniors, people with disabilities, and other low-income individuals would be eligible for a monthly federal benefit, administered through their state’s human services agency, to offset the loss in purchasing power caused by the other provisions of the bill. This benefit would be delivered electronically onto the same debit cards that states now use to deliver food stamps and other benefits. The bill also uses a portion of the proceeds from auctioning 15 percent of the allowances to finance an expansion in the now-very-small component of the Earned Income Tax Credit (EITC) for low-income workers who do not live with children, the low-income group most likely to be missed by the benefit provided through the state human services agencies. This EITC expansion would help offset the rising costs those workers would face as a result of the climate legislation. It also would reduce taxes for the one group of Americans who owe federal taxes despite living below the poverty line and who thus are taxed deeper into poverty.

A Congressional Budget Office (CBO) analysis of the bill confirms that the legislation would succeed in preventing increased hardship among low-income households overall. The CBO examined how the costs and financial benefits of the legislation would be distributed among households in each fifth (or quintile) of the income distribution. The analysis concluded that the House bill provided sufficient financial benefits to the poorest 20 percent of the population that, on average, these households would not incur a net financial loss, but rather receive a net financial gain. (Even with this positive average net benefit for the bottom quintile, however, there inevitably still will be many low-income households whose individual costs are not fully offset by the benefits they receive.)

The bill passed by the Senate Environment and Public Works (EPW) Committee the Clean Energy Jobs and American Power Act (S. 1733) also makes the protection of low-income households a basic goal. Unfortunately, that bill provides less funding for low-income assistance than the House bill does. At this point, however, the fate of climate legislation in this session of Congress rests with the efforts of Senators John Kerry (D-MA), Joseph Lieberman (I-CT), and Lindsay Graham (R-SC) to craft a bipartisan climate bill that can pass the Senate. To date there are no specifics as to how that legislation will compare with either the House Bill or the EPW bill.

How the Legislation Could Be Improved

The funding and program design in the House bill provide a good basis for low-income protection consistent with the principles laid out above. While that bill would provide enough consumer relief to fully offset most low-income families’ increased energy costs, some households such as those that rent poorly-insulated apartments or have inefficient appliances will face increased costs that exceed the amount of relief they receive. These households could have difficulty making ends meet even with the consumer assistance provided in the bill. For that reason, as the legislation moves forward, it could be strengthened by providing additional funds for the Low-Income Home Energy Assistance Program (LIHEAP), a program that provides energy assistance to low-income consumers and often targets aid on those who face utility shut-offs or other hardships. The consumer protection provisions also could be strengthened by extending eligibility for relief either through the EBT mechanism, or more likely through a refundable income tax credit, to families with incomes somewhat above the eligibility cut-off for the House bill’s relief provisions.

It is critical, however, that the relief provided to low-income households not be diluted. In other words, any direct relief for moderate-income households to supplement relief they receive through their utility company will need to come on top of the 15 percent allocation for direct low-income relief the House provides, rather than being taken out of it. Reducing the size of the low-income refund in order to provide direct relief farther up the income scale would mean that a greater portion of low-income households ended up with relief that failed to offset the full increase in energy costs they faced. Moreover, diluting the refunds would put an even bigger squeeze on the budgets of those households experiencing well-above average cost increases that exceed the amount of relief that would currently be provided in the House bill.

Conclusion

Low-income households have much to gain from legislation that would effectively combat global warming and reduce the health risks and other environmental and economic damage they would experience from unchecked climate change. But poor households also face risks of financial harm if the legislation designed to fight global warming does not contain adequate low-income protection provisions. Supplemented by a couple of modest additions, the low-income protections in the House climate bill passed in June provide a good model for such protection.

Chad Stone is Chief Economist and Hannah Shaw is a Research Assistant at the Center on Budget and Policy Priorities