Environ Econ Policy Stud
DOI 10.1007/s10018-017-0199-0
RESEARCH ARTICLE

An economic assessment of carbon tax reform to meet
Japan’s NDC target under different nuclear
assumptions using the E3ME model
Soocheol Lee1 · Unnada Chewpreecha2 ·Hector Pollitt2 · Satoshi Kojima3

Received: 20 October 2016 / Accepted: 19 October 2017
© Society for Environmental Economics and Policy Studies and Springer Japan KK 2017

Abstract The aim of this study is to investigate the macroeconomic impacts ofJapan meeting its 2030 NDC GHG emission reduction target, using a carbon tax,
under different assumptions about the share of nuclear in the power sector. We
further investigate different ways to recycle revenues raised from carbon tax.
The analysis was carried out using the global macro-econometric EnergyEnvironment-Economy model, E3ME, combined with the Future-TechnologyTransformation model of the power sector, FTT-Power. Our analysis shows thatJapan can meet its NDC target even with zero nuclear in the power mix, while
increasing GDP above baseline by recycling the revenues gained from carbon
taxes.
Keywords Carbon tax · Carbon tax reform · NDC · Japan · Power generation ·Macroeconomic modelling

1 Introduction
Japan’s low carbon future can no longer rely on nuclear power after the Fukushimadisaster in 2011. If Japan is going to meet its NDC target for 2030, there must
therefore be a shift towards renewable energy. Policies to promote the uptake ofrenewables are required to stimulate this transition. In this paper, we consider amarket-based policy, a carbon tax mechanism, as a means to stimulate renewable& Soocheol Lee
slee@meijo-u.ac.jp
1

Faculty of Economics, Meijo University, 1-501 Shiogamaguchi, Tenpark-ku, Nagoya 468-8502,
Japan

2

Cambridge Econometrics, Cambridge, UK

3

Institute for Global Environmental Strategies, Hayama, Japan

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Environ Econ Policy Studinvestment in the power sector, under different nuclear share assumptions. The samecarbon tax is used as an incentive to reduce emissions outside the power sector.
We also look at different ways that the Japanese government could use therevenues generated from the carbon tax to stimulate the economy. This analysis
shows that reducing carbon emissions does not necessarily mean additional costs toJapan’s economy and a double dividend, where emission reductions and higher ratesof economic growth can happen at the same time, is possible.
The analysis is carried out using the E3ME model, a large-scale, global, macroeconometric E3 (energy–environment–economy) model with a detailed bottom-up
sub-model of the technologies in the power sector (FTT). Our modelling approach isbased on policy simulation and empirical behaviour rather than the more commonlyused optimization method. As such, the results from this paper provide additional
evidence from an alternative modelling approach for estimating the macroeconomic impacts of climate policies in Japan.

2 The E3ME-FTT model
E3ME is a computer-based model of the world’s economic and energy systems andthe environment. It breaks the global economy into 59 different regions and splits
each country into 43 economic sectors. The model is based on post-Keynesian
economic theory (see e.g. Lavoie 2015), with an input–output core supported byeconometric equations for final demand, prices, the labour market, energy demand
and materials demand.
The econometric specification of E3ME gives the model a strong empiricalgrounding. E3ME uses a system of error correction in its equation estimation,
allowing short-term dynamic (or transition) outcomes, moving towards a long-term
trend. The dynamic specification is important when considering short- and mediumterm analysis (e.g. up to 2020).
The economic structure of E3ME is based on the system of national accounts.
Input–output ratios determine linkages between sectors and bilateral trade data
provide links between regions. There are further linkages to energy demand andenvironmental emissions through matching economic and physical data sets. The
labour market is also covered in detail, including both voluntary and involuntary
unemployment. In total, there are 33 sets of econometrically estimated equations.
Each equation set is disaggregated by the 59 regions and 43 sectors.
E3ME’s historical database covers the period 1970–2014, and the model projects
forward annually to 2030. The main economic data sources for Japan are the OECD,
the UN, World Bank, ILO and the Statistics Bureau of Japan. For energy data, themain data source is the IEA. Gaps in historical data are estimated using customized
software algorithms (never replacing actual data), although for Japan there are
relatively few gaps that need to be filled.
The figure below shows how the three main components (modules) of the model—energy, environment and economy—fit together. Each component is shown in its
own box. Each data set conforms with the relevant accounting conventions.

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Environ Econ Policy Stud

Exogenous factors coming from outside the modelling framework are shown on theoutside edge of the chart as inputs into each component (Fig. 1).
The equations for final energy demand are econometric in nature. Energy demand
is a function of economic activity rates, relative prices and technology. Total final
energy demand in each sector is split into twelve carriers, again through a series of
econometric equations. CO2 emissions are estimated using standard fixed coefficients to fuel consumption.
The linkages between modules allow for rebound effects to be captured
automatically in E3ME. The rebound effect is an important issue when considering
impacts of climate policies. For example, environmental tax reform or energy
efficiency investment could lead to higher economic activities which in turn create
additional demands for goods and services that lead to rebounds in demand forenergy input.
Further information about E3ME can be found in the model manual (Cambridge
Econometrics 2014), which is available at the model website http://www.e3me.com.
The manual includes a specific section on the impacts of carbon taxation.
2.1 Comparison to CGE models
As a macro-econometric model, E3ME is often compared to the computable generalequilibrium (CGE) approach. In many ways the modelling approaches are similar;

Fig. 1 E3 linkages in E3ME

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Environ Econ Policy Stud

they are used to answer similar questions and use similar inputs and outputs.
However, underlying this there are important theoretical differences between themodelling approaches. In a typical CGE framework, optimal behaviour is assumed,
output is determined by supply-side constraints and prices adjust fully so that all theavailable capacity is used. In E3ME, the determination of output follows postKeynesian theory and it is possible to have spare capacity. The model is moredemand-driven, and it is not assumed that prices always adjust to market clearing
levels. Jansen and Klaassen (2000) and Pollitt et al. (2015) discuss the differences
between modelling approaches in the context of climate policy.
The differences have important practical implications, as they mean that in
E3ME regulation and other policy may lead to increases in economic output, if they
are able to draw upon spare economic capacity. This is described in more detail inthe model manual (Cambridge Econometrics 2014).
2.2 The FTT:Power sub-model in E3ME
The current version of E3ME includes a detailed representation of the power sector,
FTT [future technology transitions, Mercure (2012)]. FTT identifies 24 generating
technologies, including both conventional and renewable options. It includes
estimates of the ‘levelized’ costs of each technology, covering capital costs, fuelcosts, etc. Learning rates are incorporated into the estimates of capital costs, butcost–supply curves are used to estimate possible restrictions in supply.
FTT differs from standard energy system models in that it does not attempt to
optimize the system, making it consistent with the E3ME modelling approach.
Instead, it is a model of technology diffusion following evolutionary theory, withdifferent technologies being adopted in accordance with their market shares andease of transfer from existing technologies. Restrictions are put in place to prevent alarge share of intermittent renewables that would threaten grid stability. Features ofthe model include path dependency and potential ‘lock-in’ effects; for example,
previous model results have shown gas CCGT to be a medium-term bridging
technology between coal and renewables.
The FTT model is fully integrated with E3ME. E3ME provides electricity
demand as an input, while FTT returns primary fuel demand, investment andelectricity costs as outputs. FTT is therefore a key component of the overall modeland is described in more detail in Mercure (2012) and Mercure et al. (2016).
2.3 Applicability of E3ME to Japan and the East Asian region
E3ME is a global model, but it is now well established as a tool with which to assessclimate policy in East Asia. Examples of past E3ME applications include anassessment of Japanese carbon tax reform (Lee et al. 2012) and an assessment of
future electricity generation mixes in Japan (Pollitt et al. 2014); both are describedin more detail below. Further information about the model and several otherrelevant applications are described in Lee et al. (2015).
For this paper, we use the standard version of the E3ME model. The only
adjustment is to recalibrate the model’s baseline to IEEJ projections for Japan

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(discussed below). In the scenarios, we introduce policy inputs only for Japan, whileother parts of the world remain endogenous in the model solutions. In other words,
the model solves for all 59 regions with additional policies for Japan only. Ourfindings therefore include effects from external issues such as international
competitiveness and carbon leakage from implementing policies to reduce
emissions in Japan.
2.4 Comparison to other carbon tax reform studies in Japan
In Japan, the CGE model has been the main tool to analyse the economic andenvironmental effects of carbon taxes. Previous studies have confirmed a potential
double dividend from carbon tax reform. Using a CGE model, Park (2002) shows
double-dividend effects of a carbon tax for a 20% emission reduction target in 2010,
using the revenues to cut employers’ social contributions. This carbon tax scenario
resulted in a GDP increase of between 0.16 and 0.49% in 2010 compared tobaseline.
Also based on CGE modelling, Park (2004) introduces a 30,000 yen/tCO2 carbon
tax to achieve the Japanese Kyoto Protocol target of 6% GHG reductions in 2010
compared to 1990 levels. The results show double-dividend effects for a carbon tax
with revenue recycling. Park et al. (2012) estimate double-dividend effects for seven
Asia–Pacific countries and regions: Japan, Republic of Korea, China, India,
Thailand, Malaysia and Cambodia, using an applied static CGE model. This
analysis also shows potential double dividend in all countries. In a more recent
analysis, Park et al. use the E3ME model to estimate the double dividend ofenvironmental tax reform in East Asian economies (Lee et al. 2015).
Takeda (2007) found a double dividend from carbon taxation using a multisectoral dynamic CGE model. This model consists of six parts: production side,households, the government, international trade, investment goods production andthe rest of the world. Kawase et al. (2003) analysed the effects of a 3000 yen/tCO2
carbon tax and revenue recycling through income and consumption tax using CGE
and industrial I-O analysis. The results in this study also showed a reduction in CO2,of between 0.11 and 0.27%, and an increase in GDP of between 0.01 and 0.09%,
compared to baseline.
There are fewer cases of analysis of carbon tax reform in Japan using macroeconometric models. In one example, Sugawara (2010) suggested that Japanese
GDP in the baseline will grow by 1–2% annually. This growth rate would be
reduced to zero (and the unemployment rate would increase by 3% points) if Japan
introduced a carbon tax to meet its 25% GHG 2020 target. However, if the tax
revenues were recycled to public investment, the negative impacts would be
lessened.
Two more recent econometric analyses of carbon tax reform in Japan werecarried out using the E3ME model.
Lee et al. (2012) analyse the potential economic and environmental effects ofcarbon taxation in Japan using the E3MG model, a previous version of E3ME, byconsidering the measures necessary to reduce Japan’s emissions in line with its
Copenhagen pledge of − 25% compared to 1990 levels. The results from the model

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Environ Econ Policy Studsuggest that the potential costs of reducing emissions to meet the 25% reduction
target for 2020 are quite modest, but noticeable. They show that Japanese GDP falls
by around 1.2% compared to the baseline and employment falls by 0.4% comparedto the baseline, but this could be offset, with some potential economic benefits, if
revenues are recycled efficiently.
Pollitt et al. (2014) assess the economic and environmental impacts of changing
the share of electricity generated by nuclear power and varying the 2020 GHG
targets using the E3MG model. Carbon tax revenues were recycled to income taxes.
This analysis reveals that the cost of denuclearization to Japanese GDP is close tozero, and for employment the impact is slightly positive. This analysis also shows adouble-dividend effect if carbon taxes are recycled.
Overall, the studies above show that a carbon tax with revenue recycling could
produce a double dividend and have a positive impact on GDP under certain
circumstances. This finding comes from analyses using both CGE and macroeconometric models.
2.5 Additional insights from this paper
Although the aim of this paper is to add to existing evidence of the potential impactsof environmental tax reform in Japan, using a macro-econometric modelling
approach, our analysis provides three additional insights.
First, the FTT:Power model (Mercure 2012) that is linked to E3ME is one of themost advanced tools available to assess rates of technology uptake. It has been used
extensively to provide analysis of climate policies at global, European and national
level. Combined with E3ME, the modelled interactions between economy, energy,
power sector technologies and the environment (all with global linkages) mean we
can carry out a comprehensive analysis of Japanese carbon tax policy. Our results
include impacts on international competitiveness and carbon leakage. Second, thecarbon emission target to meet Japan’s NDC commitment in our study is more
stringent than the targets assessed in previous studies. This means that a higher
carbon tax rate is required and higher carbon tax revenues will be collected,
resulting in larger impacts from environmental tax reform. Third, our analysis
shows different pathways for Japan’s emission reductions, under different nuclear
technology shares in power generation. After the Fukushima accident, nuclear
power lost support from the public as a safe source of electricity. The Japanese
government can no longer rely on nuclear as the main source of cheap and clean
power generation technology. In this paper, we provide further insights on possible
economic impacts under different nuclear assumptions. It builds on analysis in
Pollitt et al. (2014), applying the same modelling method, but with a more up-todate set of economic and electricity data.

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Environ Econ Policy StudJapan's CO2 emissions in the Reference Scenario(mtCO2)
1250
1200
1150

1100
1050
1000
2013

2020

2030

Fig. 2 Japan’s CO2 emissions in the Reference Scenario, Asia/World Energy Outlook 2015 Source(s):Asia/World Energy Outlook 2015 (IEEJ 2016)

3 Baseline and scenario descriptions
The E3ME baseline for Japan has been made consistent with the trends published in
the Reference Scenario of the Asia/World Energy Outlook 2015 (IEEJ 2016)(Fig. 2).
In the IEEJ Reference Scenario, Japan’s CO2 emissions are reduced by 10.5% in
2030 compared to 2013 levels. The E3ME model makes use of the detailed energy
demand information from the IEEJ publication in order to match the CO2 emission
trends in the model baseline.
According to the Asia/World Energy Outlook Reference Scenario, Japan’s power
sector mix in 2030 will be dominated by gas (36%) and coal (28%). Although there
has been no nuclear power generation in Japan since 2013, the Asia/World Energy
Power Generaon Shares in the Reference
Scenario, Asia/World Energy Outlook 2015
100%
90%
80%
70%
60%

50%
40%
30%
20%
10%
0%
2013

2020

2030

Coal

Oil

Natural gas

Nuclear

Hydro

Geothermal

Solar, Wind etc

Biomass and waste

Fig. 3 Power generation shares in the Reference Scenario, Asia/World Energy Outlook 2015 Source(s):Asia/World Energy Outlook 2015 (IEEJ 2016)123

Environ Econ Policy Stud

Outlook predicts that nuclear will come back into the mix by 2020 (around 20%) but
that the share will be smaller by 2030 (13%) (Fig. 3).
In the scenarios, we introduce carbon prices at rates that are sufficient to meet
Japan’s NDC 2030 CO2 target under different assumptions about the share of
nuclear in the power sector’s energy mix. The carbon prices are applied to all
sectors to meet the CO2 target.
The carbon prices are treated as carbon taxes that generate additional tax
revenues for the Japanese government. In each of the three main scenarios (20, 10
and 0% nuclear shares assumptions), we further look at four different ways in which
the Japanese government can use carbon tax revenues for different purposes(Table 1).
According to its NDC, Japan is committed to reducing its energy-related CO2
emissions by 24.9% in 2030 compared to 2005 levels (− 24% from 2013). The
Japanese 2020 CO2 target of − 3.8% from 2005 levels is already met in the
Asia/World Energy Outlook Reference Scenario and therefore in E3ME’s baseline

Table 1 Scenario descriptions
Scenario

Description

Nuclear share in theelectricity mix, 2030 (%)

Baseline

Consistent with the Reference Scenario in the Asia/World
Energy Outlook 2015 (IEEJ)

13 (IEEJ)

Scenario 1

Carbon tax to meet Japan’s NDC target in 2030. No
revenue recycling

20

Scenario 11

Carbon tax to meet Japan’s NDC target in 2030. Revenue
recycled via reductions in consumption tax (VAT)

20

Scenario 12

Carbon tax to meet Japan’s NDC target in 2030. Revenue
recycled via income tax (excludes corporation tax)

20

Scenario 13

Carbon tax to meet Japan’s NDC target in 2030. Revenue
recycled via employers’ social security contributions

20

Scenario 2

Carbon tax to meet Japan’s NDC target in 2030. No
revenue recycling

10

Scenario 21

Carbon tax to meet Japan’s NDC target in 2030. Revenue
recycled via consumption tax (VAT)

10

Scenario 22

Carbon tax to meet Japan’s NDC target in 2030. Revenue
recycled via income tax (excludes corporation tax)

10

Scenario 23

Carbon tax to meet Japan’s NDC target in 2030. Revenue
recycled via employers’ social security contributions

10

Scenario 3

Carbon tax to meet Japan’s NDC target in 2030. No
revenue recycling0

Scenario 31

Carbon tax to meet Japan’s NDC target in 2030. Revenue
recycled via consumption tax (VAT)

0

Scenario 32

Carbon tax to meet Japan’s NDC target in 2030. Revenue
recycled via income tax (excludes corporation tax)

0

Scenario 33

Carbon tax to meet Japan’s NDC target in 2030. Revenue
recycled via employers’ social security contribution

0123Environ Econ Policy StudJapan CO2 targets (mtCO2)
1300
1200
1100
1000
900
800
700
2013

2020

Reference scenario

2030

TargetFig. 4 Japan’s CO2 targets in 2020 and 2030, compared to the IEEJ’s Reference Scenario(see Fig. 4). For this reason, the carbon taxes are only introduced gradually from2021 onwards to meet the 2030 target in our scenarios.
The carbon tax rates are estimated by solving E3ME repeatedly in each scenario
until it finds a set of prices that meet the target.
It should be noted that the NDC emission target covers all greenhouse gases, but
a CO2 target was used rather than a GHG target as the current version of the E3ME
model does not include a detailed treatment of agriculture. In this study, we assume
that non-CO2 GHG emissions in Japan will fall by a similar proportion as CO2
emissions.
The share of nuclear in the power sector is entered exogenously to reflect the
scenario assumptions, while the shares of other technologies in the power sector fuelmix remain endogenous. E3ME estimates total electricity demand given the carbon
tax rates; the FTT model in turn takes this and determines the final shares of eachtechnology in electricity generation.

4 Model results and analysis
4.1 Carbon prices and CO2 reduction
The carbon tax rates in 2030 are given in Table 2, and the time profiles of the carbon
tax rates are shown in Fig. 5. The carbon tax rates increase linearly over the period
2021–2030. As noted above, there are no carbon taxes before 2020 because Japan’s
CO2 target is already met in the baseline.
In the scenarios with no revenue recycling (S1, S2, S3), the E3ME model
estimates that the carbon tax rates required to meet Japan’s NDC target are $55, $76
and $94, respectively. The carbon tax rate increases as the nuclear share decreases
because the carbon tax is required to make the emission reductions that would
otherwise have been made by a larger nuclear share. This finding is consistent with123

Environ Econ Policy Stud
Table 2 2030 Japanese carbon tax rates in the scenarios, $(2010 price)/tCO2 Source(s): E3ME, Cambridge Econometrics
Scenario

Descriptions

Carbon tax $(2010 price)/tCO2

Ba

Baseline IEEJ2015

0

S1

No revenue recycling, 20% nuclear

55.4

S11

VAT revenue recycling, 20% nuclear

58.2

S12

Income tax revenue recycling, 20% nuclear

56.2

S13

Social security revenue recycling, 20% nuclear

55.1

S2

No revenue recycling, 10% nuclear

76.2

S21

VAT revenue recycling, 10% nuclear

79.5

S22

Income tax revenue recycling, 10% nuclear

77.6

S23

Social security revenue recycling, 10% nuclear

76

S3

No revenue recycling, 0% nuclear

94.4

S31

VAT revenue recycling, 0% nuclear

101.3

S32

Income tax revenue recycling, 0% nuclear

96.7

S33

Social security revenue recycling, 0% nuclear

94.9

Carbon tax rates (2010$/tCO2)
120
100
80
60
40
20
0
2021

2022
S1

2023
S11

S12

2024
S13

2025
S2

S21

2026
S22

S23

2027
S3

2028
S31

S32

2029

2030

S33

Fig. 5 Japanese carbon tax rates 2021–2030 (2010$/tCO2) Source(s): E3ME, Cambridge Econometrics

the carbon tax rate estimates reported in Pollitt et al. (2014) and the analysis ofemissions levels in Ban (2013) and The Energy and Environment Council (2012).
In the scenarios with revenue recycling (e.g. S11, S12, S13, compared to S1), thecarbon tax rates are slightly higher, as the model results show some rebound inenergy demand from higher economic activity in these scenarios (see economics
results below). To meet the same CO2 reduction target, the rate of carbon tax
therefore has to be slightly higher.
The impacts on CO2 emissions in 2030 for different energy users are summarizedin Table 3. Power sector CO2 results are in part determined by the (exogenous)
nuclear share in the energy mix. When the nuclear share is restricted to zero in S3,

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S11

− 19.8− 21.9

− 5.8

− 2.3

− 7.4

S1

− 19.9− 21.9

− 5.9

− 2.5

− 7.1

Power and other transformation

Industries

Transport

Households

Other final uses

− 7.2

− 2.3

− 5.8

− 21.9− 19.9

S12

− 7.1

− 2.5

− 5.8

− 22.0− 19.8

S13

− 9.5

− 3.3

− 7.5

− 27.9− 16.7

S2

− 9.8

− 2.9

− 7.3

− 27.7− 16.8

S21

− 9.7

− 3.1

− 7.4

− 27.9− 16.7

S22

− 9.4

− 3.2

− 7.4

− 28.1− 16.6

S23− 11.2

− 4.0

− 9.1

− 31.7− 14.3S3− 11.6

− 3.7

− 9.0

− 31.8− 14.3

S31

Table 3 2030 impact on CO2 emissions by broad energy users in Japan (% difference from baseline) Source(s): E3ME, Cambridge Econometrics− 11.4

− 3.8

− 9.0

− 31.8− 14.5

S32− 11.1

− 3.9

− 9.0

− 32.0− 14.4

S33

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the CO2 reduction from the power sector is smaller than when the nuclear share is
20% in S1. This means that the emission reductions must be larger in other sectors,
which is driven by the higher carbon prices in S3.
The method of revenue recycling does not have much impact on the relative
reductions in emissions from each sector. It can therefore be concluded that themain determinants of the emission reductions are the assumptions about nuclear
power and the rate of the carbon tax.
Turning to the electricity sector, the shares of coal used in power generation fallconsiderably compared to the baseline (see Table 4), showing that it is essential toreduce the share of coal to meet Japan’s NDC target. The combination of reduced coaland nuclear consumption in the scenarios is mainly compensated by increases in theuse of gas for power generation, with some increases in hydropower as well. Although
there are some increases in the use of other renewables, these are not large because thecarbon price is not large enough to stimulate large-scale renewable investment and thetimescale for the scenario is too short (10 years) to allow for these technologies tobecome established. It should be noted also that our analysis does not include the latest
developments in solar and wind energy costs because the IEEJ2015 baseline has 2013
as the last year of historical data (and costs of these technologies in Japan are based on
IEA data published in 2010). Since 2010, costs of solar and wind technologies havecome down rapidly and the take-up of these technologies has been very strong. Our
results for wind and solar are therefore most likely to be very conservative.
4.2 Macro-economic impacts
The GDP impacts are shown in Fig. 6. In the scenarios where there is no revenue
recycling, the impacts on GDP are negative. With no revenue recycling, the E3ME
results suggest that the GDP impacts are most negative when the nuclear share iszero (S3) and least negative when the nuclear share is 20% (S1), even though thescenarios have the same emission reduction target. There are two explanations forthis. First, by having nuclear in the power mix, the emission reduction target can beachieved relatively easy and therefore the carbon tax rates required are lower.
Second, nuclear technology is well established in Japan, is relatively low cost anddoes not require large amounts of fuel imports. Consequently, in the scenario where
the nuclear share is low (S2) or zero (S3), the Japanese economy is hit both by alarger carbon tax and a substantial flow of wealth to energy-exporting countries.
Nevertheless, it should be noted that the GDP impacts among the different nuclear
scenarios are not large (− 0.5% at most).
In the scenarios with revenue recycling (S11, S12, S13, S21, S22, S23, S31, S32
and S33), the GDP impacts are more positive (see Table 5). This section explains
the main mechanisms underlying these findings.
In the no revenue recycling scenarios (S1, S2 and S3), the impacts of the carbon tax
lead to higher price inflation which in turn reduces consumer spending and (to a lesser
extent) exports.1 The higher the carbon tax rates, the more negative the GDP results.
E3ME results show small reductions in exports in all scenarios (between − 0.01 and − 0.04%), but these
are not shown at 1 decimal point in Table 5.

1

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4

28

36

a

4

8

5

Coal

Gas

Solar

Hydro

Biomass0

Geothermal

0

2

1

12

4

40

16

6

20

S11 (%)a

Solar and Wind

Bold values indicate exogenous nuclear share assumptions

1

1

12

16

6

Wind

1

40

5

Oil

20

13

Nuclear

S1 (%)

Baseline (%)

Energy technology

0

1

1

12

4

40

16

6

20

S12 (%)

0

1

1

12

4

40

16

6

20

S13 (%)

0

2

2

15

5

44

17

6

10

S2 (%)

0

2

2

15

5

43

16

6

10

S21 (%)

Table 4 Power generation mix, share of total generation Source(s): E3ME, Cambridge Econometrics

0

2

2

15

5

44

17

6

10

S22 (%)

0

2

2

15

5

44

17

6

10

S23 (%)

0

3

3

18

5

48

17

6

0

S3 (%)

0

3

3

18

5

47

17

6

0

S31 (%)

0

3

3

18

5

48

17

6

0

S32 (%)

0

3

3

18

5

48

17

6

0

S33 (%)

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GDP, % diﬀerence from baseline
1
0.8
0.6
0.4
0.2
0
2021

2022

2023

2024

2025

2026

2027

2028

S1

S11

S12

S13

S2

S21

S22

S23

S3

S31

S32

S33

2029

2030

-0.2
-0.4
-0.6

Fig. 6 Japan’s GDP impacts, % difference from baseline Source(s): E3ME, Cambridge Econometrics
Table 5 Japan macro-economic impacts in 2030, % difference from baseline Source(s): E3ME, Cambridge Econometrics
S1

S11

S12

S13

S2

S21

S22

S23

S3

S31

S32

S33

GDP

− 0.2

0.6

0.3

− 0.1

− 0.3

0.7

0.3

− 0.2

− 0.5

0.8

0.3

− 0.3

Consumerspending

− 0.4

0.9

0.4

0.0

− 0.6

1.1

0.5

− 0.1

− 0.8

1.4

0.6

− 0.2

Investment

− 0.1

0.5

0.3

− 0.7

− 0.2

0.6

0.4

− 1.0

− 0.2

0.9

0.5

− 1.2

Imports

− 0.4

0.3

0.1

− 0.3

− 0.3

0.6

0.3

− 0.2

− 0.2

0.9

0.5

− 0.2

Exports

0.0

0.0

0.0

0.0

0.0

0.0

0.0

0.0

0.0

0.0

0.0

0.0

Consumer
price

0.5

− 1.3

0.5

0.2

0.9

− 1.7

0.8

0.4

1.2

− 2.1

1.1

0.7

Employment

− 0.1

0.2

0.1

0.0

− 0.1

0.2

0.1

0.0

− 0.1

0.3

0.1

0.0

In the E3ME model, there is no assumption of 100% cost pass through, at least in
the short run. Instead, pass-through rates are empirically estimated from historical
data. Firms may fear losing market share if they operate in competitive international
markets and so increase prices by less. The model results suggest that, based on
estimated elasticities, Japanese firms do not pass a very large share of the cost
increases from the carbon tax to export prices. Instead, the model results show thathigher costs get absorbed in lower profits. In the long run, this could lead to lower
private-sector investment in Japan, but in the period to 2030 it is reflected in
reductions in retained profits and savings, which have much less impact on rates of
economic activity. This mechanism, which relates to the treatment of the financial
sector and ‘endogenous’ money in E3ME, is a key distinction from the treatment in
CGE models that typically impose a unitary link between savings and investment.
Pollitt and Mercure (2017) explain how the inclusion of the financial sector is
crucial in showing how a double dividend may be possible.

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Environ Econ Policy StudIn summary, the negative impacts of the carbon tax can be offset when therevenue recycling is introduced. If the method of revenue recycling is able tostimulate current rates of economic activity by more than the reductions in activity
from the carbon tax, then a double dividend may be achieved. In our scenarios, GDP
increases by the most when revenues are used to reduce consumption taxes (S11,
S21 and S31), followed by income taxes (S12, S22, S32). In these scenarios, thereductions in consumption and income tax directly boost households’ realdisposable income and encourage higher levels of spending. In the consumption
tax revenue recycling scenarios (S11, S21, S31), prices of consumer goods andservices after tax are cheaper. This further encourages consumer spending.
In the scenarios where we use revenues to reduce labour costs to industries (i.e.
employers’ social security contributions, S13, S23 and S33), not all savings are
passed through to final product prices. As a result, there are only small
improvements to GDP in these scenarios compared to the scenarios with norevenue recycling. Overall, the GDP impacts in the social security contribution
scenarios remain negative compared to baseline, showing that the stimulus toeconomic activity from the reductions on social contributions does not outweigh thenegative effects of the carbon tax.
The reduction in employers’ social security contributions, however, does makelabour relatively cheaper. As a result, there are substitution effects between labourand capital, as shown in the overall reduction in investment in these scenarios.
Overall, however, employment increases the most in the scenarios with high GDP
impacts, due to boosts in consumer demand, suggesting that reducing consumption
or income tax rates would be the preferred options. Nevertheless, it is clear thatusing the revenues to lower employers’ social security contributions could alleviate
some of the negative social impacts of the carbon tax.
When revenues from the carbon taxes are recycled through reductions in the rates
of consumption tax or income tax, the overall impacts on GDP end up roughly thesame between comparable scenarios (e.g. between S11, S21, S31) despite thedifferent carbon tax rates required under the different nuclear assumptions. This isbecause higher carbon prices produce larger revenues (as the emission target isfixed), which can be recycled and compensate the loss in GDP from the carbon tax
alone.
4.3 The sectoral impacts
The sectoral impacts (see Fig. 7) demonstrate how the benefits and costs of the
scenarios are distributed across the Japanese economy. In scenarios where there is
no revenue recycling (S1, S2 and S3), output in all sectors (except mining andutilities) falls, as the costs of energy inputs increase, together with lower demand
from consumers.
In the revenue recycling scenarios (S11, S12, S13, S21, S22, S23, S31, S32 andS33), the sectors that benefit tend to be service sectors, as they are more closely
related to consumer spending (and boosts to consumption) and also have relatively
higher labour input (so benefit from reductions in labour costs when they occur).
The manufacturing and transport sectors are relatively energy intensive, so although

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Environ Econ Policy StudJapan Sector Output in 2030, % diﬀerence from baseline (S1)
2

1.5

1

0.5

0

-0.5

-1

-1.5

-2

-2.5
Agriculture, etc

Mining and Ulies Manufacturing & Distribuon, Retail,Transport andconstruconHotel&Catering
Communicaons
S1

S11

S12

Business services

Non-businessservices

Total

S13

Japan Sector Output in 2030, % diﬀerence from baseline (S2)
3

2

1

0

-1

-2

-3

-4
Agriculture, etc

Mining and Ulies Manufacturing &construconDistribuon, Retail,
Hotel&Catering
S2

S21

Transport andCommunicaons
S22

Business services

Non-businessservices

Total

S23

Japan Sector Output in 2030, % diﬀerence from baseline (S3)
2
1.5
1
0.5
0
-0.5
-1
-1.5
-2
-2.5
-3
-3.5
-4
Agriculture, etc

Mining and Ulies Manufacturing & Distribuon, Retail,Transport andconstruconHotel&Catering
Communicaons
S3

S31

S32

Business services

Non-businessservices

Total

S33

Fig. 7 Japan output impacts at sector level in 2030, % difference from baseline Source(s): E3ME,
Cambridge Econometrics

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Environ Econ Policy Stud

Impacts on real disposable income in Japan by income groups
in 2030, % diﬀerent from baseline
3
2.5
2
1.5
1
0.5
0
-0.5
-1

-1.5
-2
S1

S11

ﬁrst quinle

S12

S13

second quinleS2

S21
third quinle

S22

S23

S3

fourth quinle

S31

S32

S33

ﬁh quinleFig. 8 Impacts on real disposable income in Japan by income quintiles in 2030, % different frombaseline Source(s): E3ME, Cambridge Econometrics

they benefit from the boosts in demand from revenue recycling, they also sufferfrom higher energy input costs as a result of the carbon tax. Output in the mining
and utility sectors falls in all cases, as the demand for energy falls.
4.4 Household distributional impacts
The E3ME model is capable of analysing policy impacts for different income
groups. The distributional results are summarized in Fig. 8, which shows how the
carbon tax and revenue recycling methods affect different income groups unevenly.
The model results show that the impacts on real disposable income for the lowerincome groups tend to be worse than those for the higher-income groups. In
scenarios without revenue recycling (S1, S2 and S3), the carbon tax negatively
affects lower-income groups more because these groups typically spend a higher
share of their income on energy (i.e. necessities). In the other scenarios with revenue
recycling, the lower-income groups also benefit less from the measures, but the gaps
in real income between quintiles are smaller in the cases of consumption tax andemployers’ social security contributions. In the case of income taxes (S12, S22,
S32), the income gap widens because higher-income groups pay more tax on theirincome and would therefore benefit more from a lower income tax rate.

5 Conclusion
In this paper, we applied the global macro-econometric energy–environment–
economy model, E3ME, to investigate the macro-economic impacts of Japan
meeting its 2030 NDC GHG emission reduction target under different assumptions

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Environ Econ Policy Stud

about the share of nuclear in the power sector fuel mix. Our analysis shows thatJapan can meet its NDC target even with zero nuclear in the power mix, while
increasing GDP above baseline by recycling the revenues gained from carbon taxes.
The most effective method of revenue recycling in promoting GDP growth is througha reduction in the consumption tax rate. This method directly boosts consumption andindirectly increases real household disposable income. Using revenue recycling to
reduce the income tax rate is the second most effective way to increase GDP.
Using revenues to reduce employers’ social security contributions would lower
costs to firms but has limited positive impacts on GDP as firms will not pass on all
the savings to their customers. Although this method directly boosts demand for
employment (as it makes labour inputs cheaper), employment would increase by
more in the other scenarios.
At sectoral level, our results suggest that, when designing policies, varying
sectoral impacts must be taken into account. The sectors that stand to benefit fromrevenue recycling measures are those that are linked to consumer spending, while
sectors that supply energy could lose out. Income distribution must also be
considered when designing climate policy. Our results show that different recycling
methods can produce uneven impacts on different income groups in Japan.
It is worth nothing that the carbon tax is the only chosen instrument in this paper
because it is intended to show the impacts of environmental tax reform. There areother low carbon policies that could also stimulate the Japanese economy at thesame time as reducing emissions. For example, feed in tariffs or subsidies forrenewable technologies could attract new investment in the power sector or energy
efficiency programs could stimulate new investments in industry or buildings.
Under the E3ME modelling framework, regulatory options need not necessarily
have negative impacts on GDP, as additional investment could draw on sparecapacity in the economy in the same way that some of the revenue recycling optionsin this paper have done.
The main message of this paper is that Japan could introduce a carbon tax to meetits NDC target under various levels of nuclear power, without having negative
effects on its economy and, with careful consideration, it could also alleviate
negative impacts on sectors or income groups that are expected to lose out fromsuch policy.

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