Economics and Environmental Implications of Carbon Taxation in Malaysia: A Computable General Equilibrium Approach

Economics and Environmental Implications of Carbon Taxation in
Malaysia: A Computable General Equilibrium Approach
Pui Kiew Ling
University of Malaya, Malaysia

Abstract
Due to high use of energy input in industrialization process, Malaysia has experienced a continuous rise in
emission coinciding with the period of rapid economic development. Against the backdrop, the paper has
taken initiatives to examine the economy-wide impacts of carbon taxation in Malaysian economy. The
inevitable use of energy inputs in production chains and consumption necessitates an assessment covering
economy-wide framework. The paper, has therefore applied, computable general equilibrium model for the
empirical analysis. The model adopts Malaysia Input-Output Tables 2010 as the main database in the simulation.
The investigation assumes three hypothetical carbon taxation ranged from RM50/tonne to RM300/tonne
(~USD12-70/tonne) CO2. These tax rates are imposed on crude oil, natural gas, and coal which are the main
energy inputs to produce petroleum products and electricity. The simulation result shows that the carbon
taxation is effective to control the rise in CO2 emissions in a positive economic performance, if the tax revenue
is recycled back to the economy as compensation scheme. Compared to the standalone carbon taxation policy,
the tax recycling reform does appear more economically acceptable considering inflation impact and
employment rate. At sectoral level, the energy intensive industries become more efficient in managing their
energy use, as intended. As the policy implications, the paper recommends that the country may consider
implementing carbon taxation by phased-in gradually to promote energy saving and emission control while
keeping economic competitiveness. In conclusion, Malaysia may introduce a policy package with a carefully
designed carbon taxation system, in combination with revenue recycling measures, for a more balanced
economic efficiency and environment conservation in transitioning towards a more sustainable economic
growth.
Keyword: emission control; energy conservation; environmental fiscal reform; double dividend effect
1. Introduction
Following a rise in economic development and standard of living, the world CO 2 emissions have been
increasing throughout the period (IEA, 2016). The close economic-energy relation may has resulted an
irreversible impact on the global economy in the future, if there is no mitigation action is taken against the
rising use of energy commodities in production activities. The concern for a continuous economic benefit

reflects the urgency of tackling the energy-environmental impact, at both local as well as global levels.
Implementation of the Paris Agreement in 2015 contributes to the achievement of Sustainable Development
Goals which helps to reduce emissions and builds climate resilience internationally. A more practical key issue
is to trace appropriate instruments for making progress on the emission mitigation pledge at country level,
both developed and emerging economies.

551


In Malaysia, the country has incurred a continuous economic growth since phrasing towards
industrialization in 1980s. Coinciding with economic development and a growing population, the country has
been experiencing a continuous energy use over time (Department of Statistics Malaysia, 2018; EC, 2016; IEA,
2016). Compared to 2000, National Energy Balance 2015 states that final energy consumption has risen nearly
80% in 2015. The International Energy Agency reports further that CO 2 emission in Malaysia has reached 220
million tonnes in 2015, which is almost double compared to 2000.
One major contributing factor for the rising emission in the country is the failure of markets to take into
account the environmental implications into prices, either directly on energy commodity itself, or on goods
and services. Theoretically, the emission cost, or simply called externalities, should be internalized by
incorporating it into market prices. For this purpose, past literature commonly agrees that carbon taxation is
one effective economic instrument for achieving energy saving and environment conservation with the
condition that it would continue to generate economic growth (Wang and Chen 2015).
The carbon taxation plays a role in signaling an efficient use of energy input and output, which then
influences the long term direction of economic development (Ekins and Speck, 1999) and environmental
quality (Wolfson & Koopmans 1996). Theoretically, the tax rate is determined in proportion with quantity of
emission produced, for instance per tonne of carbon6 (Speck 2013). The carbon tax could be imposed directly
onto prices of energy input itself, or indirectly on goods and services. By putting back the energy price to its
market level, the carbon taxation would automatically adjust output production back to efficient level, which
may then cut down emission to some extent (Wolfson & Koopmans 1996). At the same time, the carbon tax
provides one mean to generate tax revenue for handling fiscal deficits. The government could allocate the tax
revenue to improve economic performance and environmental quality. The economic and environmental

benefits, or the so called double dividend effect, makes the carbon taxation one attractive instrument for
emission controlling while keeping economic competitiveness.
Refer to Table 11, transportation sector alone has accounted nearly one third of CO 2 emission over the years
2001-2015 (Table 11). Petroleum product is the most crucial energy type used in the transportation sector. In
terms of energy mix, crude oil represents the most important energy input for petroleum products’ production
in Malaysia (EC, 2016). Meanwhile, natural gas and coal accounts more than 80% of total energy inputs used
in power stations (EC, 2016). This calls for an examination to impose carbon taxation on crude oil, natural gas,
and coal to encourage an efficient use of petroleum products and electricity.
Table 11. Sectoral CO2 emissions in Malaysia (IEA, 2018).

Year
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012

6

Total CO2
emissions
from fuel
combustion

108.8
115.7
122.8
136.2
138.0
154.0
177.4
180.9
164.2
185.0
194.0
195.9

Electricity
including
cogeneration
31.9
37.2
38.6
44.1
48.6
60.0
62.7
63.9
68.2
91.1
89.5
90.2

Other

energy
industry
own use
11.5
9.8
14.1
14.5
10.5
11.3
22.9
25.8
16.3
10.5
21.0
17.3

Manufacturing
industries
and
construction
27.7
29.8
29.6
34.1
35.2
39.3
46.4
43.7
32.9
32.2

32.8
38.0

Transport
33.6
34.4
36.6
39.3
39.2
38.7
40.0
42.1
41.3
42.4
43.0
42.9

A carbon tax could be translated into CO2 tax as a tonne of carbon corresponds to 3.67 tonnes of CO2.

552

Land
Transport
33.5
34.3
36.5
39.2
39.0
38.4
39.5

41.5
40.5
42.2
42.5
42.7

Other
sectors
4.2
4.5
4.0
4.2
4.6
4.7
5.4
5.3
5.5
8.7
7.7
7.5


2013
2014
2015

207.2
220.5
220.4

95.9
98.2
103.1

17.9
21.0
20.4

29.1
28.6
28.8

56.7
65.5
61.4

56.5
63.4
59.0

7.7
7.2
6.7

The objective of the present paper is to analyze the economic and environmental implications of the carbon
taxation. With this regard, the present study has extended the relevant local literature by incorporating two
contributions in the paper. Firstly, Malaysia currently has not implemented carbon tax on energy inputs or
goods and services. In general, the carbon tax is not common in developing countries, considering the
subsequent economic cost on inflation and export competitiveness. Given the rising emission level in the
country, a detailed study on economic impacts of carbon tax is therefore necessary, before actual

implementation. The study first conducts the investigation by retaining all the tax revenues in government’s
coffers. The reasons are, firstly, to trace the sole impacts of carbon taxation on the economy; and secondly, due
to the increasing pressure to reduce the large government deficit.
A complementary measure may become necessary to reduce the economic cost of carbon taxation, if any.
Nevertheless, the significance of the carbon taxation in emerging economies especially is justified by its
capacity to raise tax revenue. From literature, political economic constraint posits that recycling carbon
taxation revenue back to economy, or the so-called environmental fiscal reform, is always efficient than
standalone carbon taxation in compensating economic loss. The study therefore intends to re-examine the
economic impacts of carbon taxation after allocating back all the tax revenues as cash transfer to households.
The purpose is to confirm whether tax revenue reallocation through environmental fiscal reform (EFR) is
always better than the standalone carbon taxation in yielding double dividend effect.
The study adopts computable general equilibrium (CGE) model as method for the assessment. The
simulation results present a difference between the zero-tax scenario and the tax scenario. The study conducts
the simulation using the latest Malaysia IO Tables, 2010, as the main database. The flow of investigation is
guided with two hypotheses as stated below. Answers for these two hypotheses give hints for the
policymakers to evaluate whether the carbon taxation is one effective solution for slowing down the rising
CO2 emissions in the country.
H1: The carbon taxation helps to reduce CO2 emissions, however at some economic costs.
H2: The tax revenue reallocation is more effective to generate double dividend effect.
The findings of this paper allow policymakers to take better and more informed decisions, by providing an
economy-wide impact and cross-sectoral analysis of reducing emissions by implementing a national carbon
tax. Efficient energy consumption and stabilizing greenhouse emissions could come together with continuous
economic growth with policy enforcements are undertaken appropriately. The emissions control should be
reduced by minimizing the unnecessary energy use, not at the cost of a lower output production. The
emissions decoupling should occur at a lower energy use and emissions control while keeping economic
competitiveness.
The rest of this paper is structured as follows. In Section 2, the study presents some relevant literature
review to stress out the need of conducting this research. Section 3 provides some backgrounds of the CGE
model and simulations employed to run the carbon taxation policy. The next section provides empirical
analysis of the simulations. The analysis revolves economics and environmental impacts of the different

carbon tax simulations at both macro and industrial level. The paper proceeds with some corresponding policy
recommendations and suggestions. The final section provides some concluding remarks.

553


2. Literature Review
The carbon taxation itself plays a significance role in energy saving and environment conservation through
a more efficient use of energy and a substitution towards less carbon intensive energy. The carbon tax may
influence carbon emission through a change in energy price. Looking from economic perspective, the carbon
tax may increase energy prices, as it is imposed directly on energy inputs or energy intensive products. Due
to cost consideration, some producers may pass on the cost increases to customers by charging higher output
prices on energy input itself or final goods and services. The price increase may lead to a drop-in demand for
it, forcing its production levels down, and subsequently the emission level.
At economy-wide perspective, the subsequent impact on inflation and industrial competitiveness loss may
result in some economic cost. The extent of implications may vary with energy share in production, energy
structure, industrial structure, as well as socioeconomic level (Zhang et al., 2016). The impacts may then spread
to the whole economy through energy efficiency, energy substitution, production cost, industry competition,
and labor market adjustment (Bruvoll and Larsen, 2004). The empirical studies have therefore long advocates
the CGE model as one appropriate method for examining the economy-wide carbon taxation policy.
Currently, there are a handful of literature on economic and environmental impacts of carbon taxation. At
the earlier periods, the relevant literature is dominated by developed countries. The developing countries have
shown an increasing concern in making use of carbon taxation for emission mitigation in recent years. In
general, the literature agrees that carbon tax is one policy effective for handling the rising emission.
A recent literature by Guo and Liu (2016) found out that the carbon tax was effective to cut down energy
use in especially the energy intensive sectors such as manufacturing and transportation industries. Orlov et
al. (2013) wrote that the increase in energy prices caused a fall in demand for electricity and natural gas in
Russia with coal as the most pronounced.
Bruvoll and Larsen (2004) found that carbon tax was effective to lead to a fall in emission intensity in
Norwegian economy through a change in energy mix. Similar evidence was obtained by Siriwardana et al.

(2011) from Australian economy that energy consumption and emissions were lower compared to without the
carbon tax. Nordhaus (2007) demonstrated that the long run effect on emission reduction should be greater
than its short run effect. One reason is that the carbon tax policy becomes more likely to induce energy saving
or greener technology innovations as time passes. These findings confirm the effectiveness of carbon tax on
energy savings, as well as bringing down emissions level.
Further empirical studies show that the carbon tax, however, may cause at a slower economic growth as
its opportunity cost. Whether in developed countries or developing countries, the literature reveals that
levying a carbon tax may generate a negative impact on economic growth. As stated by Nurdianto and
Resosudarmo (2016), the carbon taxation was effective for environmental gain in some Asia countries, yet it
could come at a cost in terms of GDP contraction and decline in households welfare. Cabalu et al. (2015) also
stated that the carbon taxation may result in a gain for the environment which is intended, with a cost in terms
of GDP contraction as well as household income reduction in the Philippine economy.
The study by Siriwardana et al. (2011) found out further that the introduction of the carbon tax in the
Australian economy led to a contraction of the size of the economy overall, particularly it lowered real
household consumption. The similar results were also found in China where both Sun and Kuang (2015) and
Zhang et al. (2016) wrote that the carbon tax was helpful to reduce carbon emission, yet it was accompanied
with a slowdown in the economic performance. Meanwhile, in the Indonesian economy, Yusuf (2008) also
found a slight fall in the GDP and private consumption after the carbon tax implementation.
McDougall (1993) estimated the short run sectoral and economy-wide effects of a carbon tax at a rate of $25
per tonne in Australian economy in the earlier period, 1991-92. Coinciding with studies at later periods, the
results revealed that the CO2 emission did fall as expected, but real GDP performed lesser compared to without

554


the carbon tax. Other macroeconomic indicators such as employment and export also responded negatively
to the carbon tax. The results basically yielded a consensus that the carbon tax reduced energy consumption
and emissions, with a slight fall in economic growth.
However, if governments are persistent, the carbon tax policy may generate a positive impact on economy
and environment one day. Subsequent the carbon tax, the increase in production cost may induce sectors to

adopt more energy efficient technologies or to shift towards a cleaner input mix among industries and
households (Orlov et al., 2013), which accelerates the CO2 emission to fall.
In recent years, the concern on industries’ competitiveness loss has been frequently quoted as one reason
for rejecting the carbon tax (Harnay and Rème, 2012). Among sectors with the potential for disproportionate
impact include heavy manufacturing and energy intensive industries, which deserves a deeper consideration
in policymaking. Zhang et al (2016) revealed a significant contraction in energy intensive sectors’ output. Liang
et al. (2016) demonstrated that without any complementary measures, a carbon tax may negatively affect
export competitiveness of almost all tradable sectors. Anderson and Ekins (2009) showed further that the
introduction of carbon taxation may impair the competitiveness of some affected companies. Meng (2012)
mentioned that the introduction of carbon tax in Australia from 1 July 2012 had triggered a tremendous fear
in resources sectors. Therefore, some countries offer tax exemption on a certain sector or an energy input type,
in order to retain the industries’ competitiveness, as before the carbon tax introduction. In empirical studies,
Abrell (2012) found out that the exemption of transport sector generated a lesser welfare loss in European
countries compared to without the tax exemption.
The past literature commonly agrees that, carbon tax is an effective step to reduce emission, but its rate
should be imposed at appropriate rate for it to take effect. Guo et al. (2014) revealed that a moderate carbon
tax was sufficient to reduce carbon emission and energy consumption, despite it may still came at a slight fall
in economic growth. Wang and Liang (2014) argued that the carbon tax policy could be introduced with a low
rate at the initial stage as it may not strongly exacerbate inquietly in primary income distribution. A higher
carbon tax was not suggested at the initial implementation due to its possible impact to jeopardize economic
impact and social welfare. Sun and Kuang (2015) argued that the higher the tax rate, the higher the loss of
GDP growth. Chiu et al. (2015) examined four possible carbon tax regimes ranging from US$20 to US$50 per
ton of CO2 in the Taiwan gasoline market. The paper found out that a higher level of carbon tax was more
effective to induce a reduction in gasoline consumption, through a reflection in higher gasoline price. Despite
the effectiveness, Siriwardana et al.(2011) noted that sectoral outputs tend to contract at an increasing rate with
the level of carbon tax.
One reason to explain the economic loss, as found out in the prior literature, is because the tax revenue is
being retained in the economy as government’s extra income. The priorities on economic development,
poverty reduction, and improvement of living standards often lead to an opposition when the carbon taxation
policy comes to actual implementation (Liang and Wei, 2012). The feasibility of carbon taxation in the real

economy has become a source of controversy between economists and politicians which are often the
policymakers. Both parties agree on one consensus if the carbon taxation could stimulate a continuous
economic development. In the case, the carbon taxation policy may continue accessible if there is any
instrument that could at least eliminate or hinder the subsequent economic costs. The literature agrees that
carbon taxation is still effective to reduce energy use and emissions, with the condition that the tax revenue is
being recycled to accelerate economic growth and increase employment.
The tax revenue raising capacity (Speck, 2013) is one attractive key feature that convinces the politicians to
implement or retain its implementation. Abdullah and Morley (2014) found some evidences of short-run
causality running from the increased revenue from the environmental tax to economic growth in some
European and Organization for Economic Co-operation and Development countries. Recycling the tax
revenue to economic agents seems necessary to compensate or improve economic performance subsequent
the introduction of carbon taxation.

555


The economics and environmental implications of revenue recycling, better known as EFR, depends on
how the tax revenues are being recycled. ERT enables the carbon tax policy to be carried out in a revenueneutral way, that is leaving total tax revenues unchanged. The essence of ETR is the shifting of the burden of
taxation away from socially desirable economic activities such as on labor and capital to socially less desirable
activities which entail negative environmental externalities (Vandyck and Van Regemorter, 2014). Note that
ETR is not the introduction of new taxes.
Orlov et al. (2013) conducted a thorough study to access the double dividend hypothesis from the sectoral
and macroeconomic impact of carbon taxation on the Russian economy. The empirical results showed that
substituting the carbon taxation for the labor tax provided a simultaneous economic and environmental
benefit, thereby signifying the existence of the double dividend effect. Conefrey et al. (2013) also found out
that the carbon taxation was able to reduce emission and stabilize economic growth in Ireland, if the tax
revenue was properly recycled to reduce existing distortionary tax in the economy. Specifically, the paper
found that the EFR was effective to yield a double dividend effect if the carbon taxation revenue was recycled
through reduced income tax, but less likely through a lump-sum transfer to households. Murray and Rivers
(2015) supported that EFR through tax cuts and lump sum transfer to households generated a weak double

dividend effect in British Columbia as the revenue recycling did mitigate some economic losses from the
carbon taxation policy.
Further, Welsch and Ehrenheim (2004) found that EFR yielded a moderate double dividend effect in terms
of reduced emissions with stabilized employment and economic growth in Germany. The empirical works
basically support policy coordination as always dominant over the standalone carbon taxation in the real
economy. Markandya et al. (2013) revealed a similar result was obtained for the case of Spain where the
revenue-recycling effect of using the tax revenues to reduce taxes on labor or capital or to make lump sum
transfers to households was more likely to yield a double dividend effect compared to a standalone carbon
taxation policy. Compensation for potential losers seems necessary to increase the acceptance of carbon
taxation policy as the tax reallocation always yield better economic impacts.
The empirical study by Siriwardana et al. (2011) identified further that the substitution for the labor tax
yielded a double dividend effect in the Australian economy. Particularly, the paper demonstrated that cash
transfers to households generated less expansionary pressure on the domestic economy compared to a
reduction in commodity tax. The negative impact on economic growth and factor income loss was reduced
with a cut in other taxes, which is further supported by Liang and Wei (2012). Baranzini et al. (2000) recognized
that carbon taxation was a cost-effective instrument for reducing emissions in some European countries after
its main negative impacts may be compensated through the design of the tax and the use of the generated
fiscal revenues. The revenue recycling could not only improve the environment quality but also it reduces the
distortion of existing tax for instance income or labor tax. These findings proved further that how to use the
generated fiscal revenue is of fundamental importance in determining the final economic impact of carbon
taxation.
In the Malaysia’s literature, despite its limited number, is emerging lately. Among the most relevant
studies, Nurdianto and Resosudarmo (2016) found that Malaysia could benefit economically from carbon tax
as it counteracted price distortions due to the existence of fuel subsidy in the country. Solaymani et al. (2015)
and its extended paper, Solaymani (2017) found that the carbon tax was more effective than the equivalent
energy tax to reduce carbon emissions as it involved lesser cost in terms of real GDP and investment.
Solaymani et al. (2015) showed that lump sum household transfer was more effective than labor tax recycling
in compensating the economic cost of carbon taxation with the reason that the tax interaction effect was less
remarkable compared to the tax recycling effect. Private consumption and households’ welfare increased after
the tax revenue was reallocated to the economy through lump sum transfer. In comparison, the labor tax

recycling was not as effective as to raise the double dividend effect where the household’s consumption and
welfare seem failed to increase up to the level as before the carbon taxation introduction.

556


3. Method
The present study adopts CGE model to simulate the economic and environmental impact of the carbon
taxation. Due to the close link between energy commodities and the whole economy, the carbon taxation is
better analyzed using a general equilibrium framework. The model could provide a comprehensive analysis
of the economy-wide impacts of the carbon taxation. The CGE model is preferred over partial equilibrium
model or econometrics because of this capacity of representing the complex interdependencies in the whole
economy (Lin and Ouyang, 2014). The investigation employs Malaysia Input-Output Tables 2010 as the main
database in the simulation. There are originally 124 industries and type of commodities in the IO table. To suit
the need of simulation, the paper has disaggregated the petroleum refinery commodity into four: gasoline,
diesel, biodiesel, and other fuel. The parameters of the functions in the model are adapted mainly from
literature on other CGE models, and intelligent guessing when literature is not available.
3.1 CO2 Emissions
While energy inputs influence output production, the combustion of energy releases emissions into the
atmosphere. The present study has incorporated CO2 emissions matrix to simulate the economic impacts of
carbon taxation. This study focuses specifically on CO2, since it makes up the largest proportion of pollutants.
Following the formula used by the Intergovernmental Panel on Climate Change (Temurshoev 2006), this study
calculates CO2 emissions by multiplying energy consumption 𝑄 with energy’s carbon content 𝐶𝐶, the carbon
oxidation factor 𝜛, and the molecular weight ratio of emissions δ (Equation 1):

CO2𝑒,𝑖 = 𝑄𝐶𝐶𝜛δ

(1)

The present paper focuses on CO2 emission produced by industries and households. Data on energy

consumption 𝑄 is obtained from in the Malaysia Input-Output Tables 2010. The energy matrix in the Malaysia
Input-Output Tables 2010 is converted first to physical terms. Then, the energy data is multiplied with emission
factor to derive CO2 emission matrix. Express it in a percentage change form:

∆CO2𝑒,𝑖 = ∆𝐸𝑒,𝑖

(2)

3.2 Simulations
The CO2 Emission from Fuel Combustion Highlights 2016 Edition, published by the International Energy
Agency, has long recognized transportation, and electricity sectors among the largest CO2 emitters in Malaysia
for decades. The high CO2 emissions in the transportation sector is attributable to heavy reliance on petroleum
products (EC, 2016), for instance petrol and diesel as energy source. Given the high share of natural gas and
coal in total energy mix, it explains the reason CO2 emissions always increase in power plant. The CO 2
emissions from the electricity sector is very likely to rise in the future if service sector continues to excel. This
indicates a necessity to encourage a further efficient energy use in these sectors for achieving a more
sustainable economic development.
These tax rates are imposed on crude oil, natural gas, and coal, which are the main energy inputs to produce
petroleum products and electricity. The carbon taxation on these three kind of energy inputs covers nearly
90% of total primary energy supply in Malaysia for the 2015 (EC, 2016). Instead of taxing petroleum product
itself, the paper puts an arbitrary tax on crude oil for two reasons; political resistance and possibly unequal
distribution impacts on lower-income households. The paper does not impose carbon taxation on electricity
(Wissema and Dellink, 2007) consumption because its use does not cause emissions directly. Despite the
electricity consumption does not cause CO2 emissions directly, the electricity generation process involves a lot

557


of primary energy which has caused large CO2 emissions (Ren et al., 2014). The amount of CO2 emissions
produced from the power plant depends on electricity generation technologies, energy intensity, and energy

mix. For this reason, the paper introduces arbitrarily tax on its intermediate energy including natural gas and
coal. This approach avoids double-taxing where only primary energy is taxed in the electricity and
transportation industries; petroleum products and electricity are secondary energy.
In expectation, the carbon taxation imposed on crude oil should be effective to encourage local economic
agents to consume petroleum products more efficiently during driving, which it contributes to an emission
reduction. This study also believes carbon taxation is effective to stimulate a more efficient energy use in power
plant for electricity generation. The subsequent price change is expected to encourage a more efficient
electricity consumption among local economic agents especially the energy intensive industries and
households.
Instead of the form of ad valorem, the carbon tax is imposed as a specific tax by charging the amount of
money needed to pay for producing a certain quantity of CO 2 emissions, that is ringgit per tonne of CO2.
Regarding the tax rate, the study has imposed three carbon pricing ranged from RM50 to RM300 per tonne of
CO2 emissions. Since Malaysia has never implemented carbon taxation before, an initial stage better starts with
a low rate first. For the reason, the study imposes arbitrarily RM50 (~US$12) per tonne of CO2 emissions in the
first scenario. In the real world, developing countries prefer a lower tax rate than developed countries
(Matsumoto, 2008). This main policy scenario is examined with two comparable tax scenarios, namely RM120
(~US$28) and RM300 (~US$70) per tonne of CO2 emissions. The carbon price of RM120 is simulated merely to
gauge the extent of variation of the impact if a carbon price usually imposed by developed countries is
implemented in Malaysia. The relative high carbon price RM300 would be contrasted with the low carbon
price as RM50 and the medium carbon price as RM120. The comparison is conducted to recognize whether a
high carbon tax could be more appropriate for stimulating a further emission cut. Next, the study simulates
to return all the tax revenue to the economy as cash transfer to households. The present study repeats these
four scenarios in both short run and long run economic environment. Sensitivity test proceeds with doubling
and halving the elasticity of substitution between diesel and biodiesel.
Time Period
Short run
Short run
Short run
Short run

Scenario
1
2
3
4

Long run
Long run
Long run
Long run

5
6
7
8

Type of Shock
RM50 of carbon tax
RM120 of carbon tax
RM300 of carbon tax
RM50 of carbon tax and
tax revenue is handed back as a consumption subsidy
RM50 of carbon tax
RM120 of carbon tax
RM300 of carbon tax
RM50 of carbon tax and
tax revenue is handed back as a consumption subsidy

4. Results and Analysis
4.1 Macroeconomics Impacts

Since the model used is comparative static type, the simulation output is interpreted as a new equilibrium
after the economy system has adjusted to the shock. The first column in Table 12 shows that an RM50 carbon
tax rate resulted in a 0.0026 percent decline in real GDP in the short run. The economic performance worsens
with the rate of the carbon tax. As energy goods are used by almost every sector, the carbon tax might lead to
increase in prices of several goods and services. As expected, the carbon tax came at the cost of inflationary
pressure. The shows that the consumer price index rose by 0.0163 percent more in the short run when the

558


carbon tax of RM50 per tonne was imposed. That is, households needed to pay 0.0163 percent more for the
same quantity of goods and services they purchased before the carbon tax policy. The inflation thus weakened
their purchasing power by 0.0163 percent. If the economy increases the penalty on CO 2 emissions, the
economic performance may come at a higher economic cost and inflation. At a carbon tax rate of RM120 per
tonne, the economy incurred 0.0534 percent inflation in the short run.
The rise in price level may affect the economy on the demand side by cutting export and import demands
in the country. Facing a higher cost of energy-intensive input, the increase in production cost may push
producers to reduce export for foreign countries. It is because normally the local producers are less flexible to
pass an increase in production cost to overseas buyers. With the RM50 carbon tax rate, the export demand fell
by 0.0129 percent in the short run. The country may incur more export revenue loss if a higher carbon pricing
is charged. At the RM120 carbon tax rate, the export demand fell by 0.0282 percentage points more compared
to the RM50 carbon tax rate.
Local economic agents may also reduce demand for imported goods, including intermediate inputs, as an
effort to minimize the production cost following the introduction of the carbon tax. The import demand fell
by 0.0133 percent if the RM50 carbon tax rate was charged on energy commodities, of which producers are
one major importer in the country. The local economic agents may reduce even further the demand for
imported goods if a higher carbon pricing is charged. As expected, the import demand fell by 0.0455 percent
at the RM120 carbon tax rate. The import demand fell even more, by 0.0625 percentage points, if RM300 was
charged per tonne of CO2.
As shown in the fourth scenario, the outcome may be different when the carbon tax revenue is given back

to the economy. By recycling the tax revenue as a subsidy on consumer purchases, the economy appeared to
recover slightly from the negative impact for a short run. As shown in table, the economy performed 0.0068
percent better in real terms after the tax revenue redistribution. At this point, the economy grew 0.0068 percent
more relative to where the carbon tax was not imposed. That is, the GDP performed better after the carbon tax
redistribution compared to without it.
However, as time passes, the economy seems to perform 0.0089 percent lesser, even after the tax recycling.
An extra compensation package is necessary to achieve a simultaneous positive impact on both the economy
and environment, ie the double dividend effect. One way is to compensate for the loss of purchasing power
among consumers especially, at least to some extent. Secondly, the government could subsidize certain goods
and services to offset the increase in production cost subsequent to the carbon tax burden. It therefore allows
goods and services always to be sold at affordable prices despite the carbon tax introduction. It could indirectly
avoid the rise of price level from beginning before the producers transfer it to consumers. These reasons
necessitate the carbon tax regime to be implemented along with supplementary fiscal measures.
Table 12: Macroeconomic effects of a carbon tax in Malaysia (in Percentage Change)
Macroeconomic
effects
Gross
domestic
product
Household
consumption
Volume of exports
Volume of imports
Aggregate
employment
Consumer price index

Scenarios
4
5

1

2

3

6

7

8

-0.0026

-0.0061

-0.0274

0.0068

-0.0173

-0.0444

-0.1221

-0.0089

0

0

0

0

0.0131

0.0271

0.0507

-0.0089

-0.0129
-0.0133

-0.0411
-0.0455

-0.1116
-0.108

-0.0026
-0.0129

-0.0686
-0.0686

-0.1596
-0.1581

-0.3705
-0.3606

-0.0292
-0.0435

-0.0071

-0.0131

-0.0373

0.0207

0

0

0

0

0.0163

0.0534

0.1434

-0.0623

0.0166

0.0382

0.0873

0.1082

4.2 Industrial Impacts

559


The section assesses the impacts on outputs and employment in energy intensive industries, as their inputs
are hit directly by the carbon taxation. Because of the high energy intensity, the energy intensive industries
are sometimes more vulnerable to the carbon taxation policy. A carbon tax generally increases the cost of
production more significantly for industries whose its energy intensity is high. The subsequent rise in price of
energy commodities may then result in an immediate reduction in output supply especially in the energy
intensive industries.
As expected, the 20 top energy intensive industries in the country seems to contract (Table 13), at an
increasing rate with the rate of carbon taxation. With the RM50 carbon pricing, petroleum refinery and
transportation are among the two hardest hit industries (Table 13). At the carbon price RM120, the petroleum
refinery industry cut down its output production by 0.06 percent relative to baseline ie without the carbon tax
reform. Other industries that experience contraction are those closely related to these two industries. Among
them include heavy manufacturing (cement, lime and plaster), agriculture and fishing, and service (financial
institution). Some industries turn to perform better, after the tax revenue is recycled back to the economy.
The estimated long-run effects appear more severe than the short-run effects, possibly due to industrial

structure. Due to the multiplier effect of price increases, the economy seems becomes less capable to induce a
more beneficial reallocation of resources over the long run. Over time, the direction of reallocation still inelastic
to switch away from lower cost processes with higher emission levels towards higher cost processes with
relative lower emission levels.
Many opponents argue that the additional tax burden may result in employment losses especially in
energy intensive industries. Table 14 confirms this view, showing that some energy-related industries
experience job losses. The paper expects that blue-collar workers in the industries might be severely affected
by the carbon taxation. Despite employment losses in other energy intensive industries, interestingly, the
petroleum refinery industry seems to increase its labor demand. The similar employment gain seems to
continue exist after the tax recycling.
Table 13: Sectoral output changes in response to carbon taxation
Energy
intensive
industries
Petroleum refinery
Wholesale & retail
trade
and
motor
vehicle
Electricity and gas
Air transport
Land transport
Basic chemicals
Other
chemicals
product
Crude oil and natural
gas
Fishing

Forestry and logging
Financial institution
Civil engineering
Oils and fats
Water transport
Restaurants

Scenarios
1
2
0.00
-0.06
-0.01
-0.05

3
-0.15
-0.12

4
-0.02
-0.01

5
-0.10
-0.09

6
-0.23
-0.20

7
-0.54
-0.48

8
-0.09
-0.06

0.00
-0.01
-0.17
-0.01
-0.02

-0.01
-0.02
-0.61
-0.03
-0.08

-0.04
-0.04
-1.53
-0.09
-0.20

0.00
0.00
-0.24

0.00
-0.02

-0.04
-0.04
-0.18
-0.21
-0.17

-0.09
-0.09
-0.43
-0.49
-0.40

-0.22
-0.21
-1.01
-1.16
-0.94

-0.03
-0.03
-0.16
-0.13
-0.07

0.00

-0.01

-0.03

0.00

-0.06

-0.15

-0.36

-0.06

0.00
-0.01
0.00
0.01
-0.01
-0.01
0.00

-0.02
-0.05
-0.01
0.02
-0.02
-0.03
-0.01

-0.04

-0.14
-0.02
0.07
-0.05
-0.08
-0.02

-0.01
-0.01
0.00
0.00
0.00
0.00
0.00

0.00
-0.06
-0.09
-0.02
-0.02
-0.08
0.00

0.00
-0.14
-0.21
-0.04
-0.05
-0.20
0.01

-0.01
-0.34
-0.52
-0.12
-0.12
-0.45
0.00

-0.01
-0.03
-0.04
-0.02
-0.02
-0.03
-0.01

560


Semi-conductor
devices, tubes and
circuit boards
Cement, lime and
plaster
Iron and steel products
Accommodation
Public administration

-0.01

-0.03

-0.07

0.00

-0.09

-0.20

-0.47

-0.03

0.01

0.02

0.06

0.00

-0.03

-0.07

-0.18

-0.02

-0.01
0.00
0.00

-0.03
0.00
0.00

-0.09
0.00
0.00

-0.01
0.01
0.00

-0.06
0.00
0.01

-0.15
-0.01
0.03

-0.35
-0.03
0.05

-0.03

-0.01
-0.01

Table 14: Sectoral employment changes in response to carbon tax
Energy
intensive
industries
Petroleum refinery
Wholesale & retail
trade
and
motor
vehicle
Electricity and gas
Air transport
Land transport
Basic chemicals
Other
chemicals
product
Crude oil and natural
gas
Fishing
Forestry and logging
Financial institution
Civil engineering
Oils and fats
Water transport
Restaurants
Semi-conductor

devices, tubes and
circuit boards
Cement, lime and
plaster
Iron and steel products
Accommodation
Public administration

Scenarios
1
2
0.17
0.56
-0.04
-0.14

3
1.44
-0.37

4
0.25
-0.02

5
0.09
-0.08

6
0.20

-0.18

7
0.48
-0.42

8
0.09
-0.05

-0.03
-0.01
0.32
-0.04
-0.06

-0.07
0.01
2.60
-0.11
-0.16

-0.20
0.02
6.86
-0.31
-0.44

0.01
0.05

1.10
0.00
-0.02

-0.03
-0.03
1.89
-0.19
-0.16

-0.06
-0.07
4.51
-0.44
-0.38

-0.15
-0.17
11.14
-1.03
-0.88

-0.02
-0.03
1.91
-0.11
-0.07

-0.02

-0.12

-0.34

0.00

-0.05

-0.12

-0.27

-0.05

-0.01
-0.06
-0.01
0.02
-0.02
-0.03
0.00
-0.03

-0.02
-0.19
-0.03
0.04
-0.05
-0.08
-0.01

-0.10

-0.05
-0.51
-0.07
0.11
-0.14
-0.20
-0.04
-0.26

0.02
-0.03
0.00
0.01
0.00
0.02
0.01
0.01

0.01
-0.09
-0.08
-0.01
0.00
-0.08
0.01
-0.08

0.02

-0.21
-0.19
-0.03
-0.01
-0.18
0.02
-0.18

0.05
-0.48
-0.46
-0.08
-0.02
-0.40
0.05
-0.41

-0.01
-0.05
-0.04
-0.02
0.00
-0.03
-0.01
-0.02

0.04

0.09

0.23

0.04

-0.02

-0.04

-0.10

-0.02

-0.03
0.00
0.00

-0.11
0.00
0.00

-0.30
-0.01
0.00

-0.01
0.02
0.00

-0.04
0.01

0.01

-0.10
0.01
0.03

-0.24
0.02
0.06

-0.02
-0.01
-0.01

4.3 Impacts on energy consumption and CO2 emissions
Table 15 shows there may be a 0.01 percent lesser energy consumption in the economy, after the RM50
carbon price. The 0.01 percent cut in demand for energy goods with the proposed carbon tax RM50 tends to
reduce aggregate CO2 emissions level at the similar rate subsequently. The projection with higher carbon
pricing recognizes that the carbon tax may an effective policy instrument as it may bring more energy saving
and the pollution level down further. The GDP loss indicates that the country may incur an increasing
economic cost in lowering down the CO2 emissions level with the increase in carbon pricing (Figure 5). This
finding therefore validate the first hypothesis that the carbon taxation helps to reduce CO 2 emissions, at some
economic costs.
Comparing the first and fourth scenarios, practicing budget neutrality by distributing back the tax revenue
to the economy appears effective to improve economic performance at least in the short run, however, weaken
the capacity to raise energy saving and emission control. In overall, environmental fiscal reform is therefore

561

preferable than carbon taxation standalone policy in yielding economic and environmental benefits. This
finding confirms the second hypothesis that the tax revenue reallocation is effective to generate double
dividend effect. The tax revenue seems necessary to compensate the economic loss caused by the carbon
taxation policy. As the economy may continue to perform lesser than expected in the long run, extra
compensation scheme with a proper planning might be needed over time. The sensitivity test yields the similar
findings, as the main scenarios.
Table 15: Projections of environmental variables
Environmental variables
Energy saving
CO2 emission cut

Scenarios
1
2
-0.01
-0.10
-0.01
-0.11

3
-0.24
-0.27

4
-0.04
-0.04

5
-0.14
-0.15

6
-0.33
-0.36

7
-0.76
-0.82

8
-0.13
-0.14

Figure 5: CO2 emissions reduction under different carbon price

0.00

CO2 Emission Cut (%)

50

120

300

-0.05
-0.10
-0.15
-0.20
-0.25

-0.30
Carbon Tax (RM per tonne CO2)

5. Discussion of Findings
In the face of rapid economic growth and urbanization process, the results can provide valuable insights
for the appropriate design of energy or climate policies that allow for the targeted fostering of a more
sustainable economic development. It would be unfortunate if the successful lobbying of some politicians’
intent on maintaining sectoral economic performance and household welfare are to hinder the economic and
environmental benefits from being realized. That is, the fall in CO 2 emissions, which is one of the most
important objectives of environmental policies, however, should not come at a slower economic growth than
its opportunity cost. A sustainable economic development stresses the necessity of continuous economic
growth with an efficient use of resources and better environmental quality.
As the policy implications, the country is advisable to introduce carbon taxation by phased-in gradually
for a continuous economic welfare. Compared to energy tax, carbon tax could internalize externality more
directly by suggesting that polluters should be taxed accordingly to offset their underestimated input prices.
In overall, the simulation results show that the carbon taxation is effective to control the rise in CO2 emissions
in a positive economic performance at least in the short run, after the tax revenue is recycled back to the
economy as a compensation scheme. The existence of double dividend effect found in the present paper
confirms the past literature that EFR was still effective to reduce energy consumption and carbon emissions

562


while leaving economic performance and employment level qualitatively unchanged. To cushion any negative
impacts of carbon tax, a moderate carbon tax rate and carbon tax recycling policy are recommended, according
to the simulation results.
Practically, in Malaysia, the carbon taxation could be implemented as an ex-post policy after the fuel
subsidy has been abandoned completely. Its tax revenue is effective to finance budget deficits in case the fuel
subsidy saving is still insufficient to do so. Putting all these policies together in one portfolio could
continuously encourage economic development and welfare protection, especially among the lower-income

households. This intuition has been supported empirically by the study of He et al. (2015), which proposes
that a rational energy policy should maintain coordination of the energy tax and fuel subsidy reform in one
portfolio to achieve the double dividend effect. Conventionally, comprehensive energy policies are more
conducive to induce the double dividend effect with simultaneous economic and environmental benefits, as
compared to a stand-alone policy.
On the regard, the policymaking should draw a special attention on the energy use and emission in energy
intensive industries. In the short run, the country may offer some exemptions to energy intensive industries,
given the possibility of output contraction in response to the carbon taxation. Tax recycling may increase
employment and at least maintain output production. Besides, a long-term policy consideration necessitates a
complementarity with technology advancement. The carbon tax could become more relevant in the future if
its introduction is saddled with energy saving or greener technology innovations. Reducing emissions requires
lesser use of emission intensive energy sources, using more renewable energy, or switching to less polluting
energy consumption.
6. Conclusion
The primary objective of the present study is to analyze the economics and environmental impacts of
carbon taxation in Malaysia. The study employs computable general equilibrium modeling as method to
account its impact on improving economy performance and energy security. First, the study examines the
impacts of carbon taxation, retaining tax revenue as government budget. Isolating the tax revenue from
government’s coffers gives the pure economic impacts of the carbon taxation. Overall, the simulation results
show that a carbon taxation can lower down CO2 emissions effectively, but it may cause mild economic
contraction. The commitment on achieving a continuous economic growth requires a compensation scheme.
The investigation examination has continued with recycling all the tax revenue as cash transfer to the
economy. The simulation results show that a proper compensation plan seems necessary to tackle the negative
effects of the carbon tax on the economy, at least in the short run. As a concluding remark, currently, the carbon
tax is not yet an environmental policy, but its sizeable environmental conservation effect makes it worth a
deep investigation into its validity in the Malaysian economy.
Acknowledgement
This research did not receive any specific funding from agencies in the public, commercial or not-for-profit
sectors.
References

Abdullah, S., Morley, B., 2014. Environmental taxes and economic growth: Evidence from panel causality tests. Energy Econ. 42, 27–33.
Abrell, J., 2012. Regulating CO2 emissions of transportation in Europe: A CGE-analysis using market-based instruments. Transp. Res. Part
D 15, 235–239.
Anderson, M.S., Ekins, P. 2009. Carbon Energy Taxation: Lessons from Europe. New York: Oxford University Press.
Baranzini, A., Goldemberg, J., Speck, S., 2000. A future for carbon taxes. Ecol. Econ. 32, 395–412.
Bruvoll, A., Larsen, B.M., 2004. Greenhouse gas emissions in Norway: Do carbon taxes work? Energy Policy 32, 493–505.
Cabalu, H., Koshy, P., Corong, E., Rodriguez, U.P.E., Endriga, B.A., 2015. Modelling the impact of energy policies on the Philippine
economy: Carbon tax, energy efficiency, and changes in the energy mix. Econ. Anal. Policy 48, 222–237.

563


Chiu, F.P., Kuo, H.I., Chen, C.C., Hsu, C.S., 2015. The energy price equivalence of carbon taxes and emissions trading-Theory and
evidence. Appl. Energy 160, 164–171.
Conefrey, T., Fitz Gerald, J.D., Malaguzzi Valeri, L., Tol, R.S.J., 2013. The impact of a carbon tax on economic growth and carbon dioxide
emissions in Ireland. J. Environ. Plan. Manag. 56, 934–952.
Department
of
Statistics
Malaysia,
2018.
Malaysia
Informative
Data
Centre
(MysIDC).
(accessed 27 January 2018).
Energy Commission Malaysia, 2017. National Energy Balance 2015.
Ekins, P., Speck, S., 1999. Competitiveness and exemptions from environmental taxes in Europe. Environ. Resour. Econ. 13, 369–396.
Guo, Z., Zhang, X., Zheng, Y., Rao, R., 2014. Exploring the impacts of a carbon tax on the Chinese economy using a CGE model with a

detailed disaggregation of energy sectors. Energy Econ. 45, 455–462.
Guo, Z.Q., Liu, H.B., 2016. The impact of carbon tax policy on energy consumption and CO 2 emission in China. Energy Sources, Part B
Econ. Planning, Policy 11, 725–731.
Harnay, P.V., Rème, P., 2012. Carbon taxation in France: A failure compared with experience elsewhere in Europe? The case of road freight
transport. Eur. Transp. Res. Rev. 4, 201–215.
He, Y.X., Liu, Y.Y., Du, M., Zhang, J.X., Pang, Y.X., 2015. Comprehensive optimisation of China’s energy prices, taxes and subsidy policies
based on the dynamic computable general equilibrium model. Energy Convers. Manag. 98, 518–532.
Internatiuonal Energy Agency, 2018. CO2 Emissions from Fuel Combustion Highlights (2017 Edition).
Liang, Q., Wei, Y., 2012. Distributional impacts of taxing carbon in China: Results from the CEEPA model. Appl. Energy 92, 545–551.
Liang, Q.M., Wang, T., Xue, M.M., 2016. Addressing the competitiveness effects of taxing carbon in China: Domestic tax cuts versus border
tax adjustments. J. Clean. Prod. 112, 1568–1581.
Lin, B., Ouyang, X., 2014. A revisit of fossil-fuel subsidies in China: Challenges and opportunities for energy price reform. Energy Convers.
Manag. 82, 124–134.
Markandya, A., González-Eguino, M., Escapa, M., 2013. From shadow to green: Linking environmental fiscal reforms and the informal
economy. Energy Econ. 40, S108–S118.
Matsumoto, K., 2008. Introduction of the carbon tax based on the imputed price of carbon for the Post Kyoto Protocol scenario. Int. J.
Green Energy 5, 241–254.
McDougall, R.A., 1993. Short-run effects of a carbon tax. Gen. Pap. No. G-100, Cent. Policy Stud.
Meng, X., 2012. Will Australian carbon tax affect the resources boom? Results from a CGE model. Nat. Resour. Res. 21, 495–507.
Murray, B., Rivers, N., 2015. British Columbia’s revenue-neutral carbon tax: A review of the latest “grand experiment” in environmental
policy. Energy Policy 86, 674–683.
Nordhaus, W.D., 2007. To Tax or Not to Tax: Alternative Approaches to Slowing Global Warming. Rev. Environ. Econ. Policy 1, 26–44.
Nurdianto, D., Resosudarmo, B., 2016. Economy-wide Impact of a Carbon Tax in ASEAN. J. Southeast Asian Econ. 33, 1–22.
Orlov, A., Grethe, H., Mcdonald, S., 2013. Carbon taxation in Russia: Prospects for a double dividend and improved energy efficiency.
Energy Econ. 37, 128–140.
Ren, S., Yin, H., Chen, X., 2014. Using LMDI to analyze the decoupling of carbon dioxide emissions by China’ s manufacturing industry.
Environ. Dev. 9, 61–75.
Siriwardana, M., Meng, S., Mcneill, J., 2011. The impact of a carbon tax on the Australian economy: Results from a CGE model. Business,
Econ. Public Policy Work. Pap. Number 2011-2, Univ. New England’s Sch. Bus. Econ. Public Policy, Armidale, Aust.
Solaymani, S., 2017. Carbon and energy taxes in a small and open country. Glob. J. Environ. Sci. Manag. 3, 51–62.

Solaymani, S., Kardooni, R., Sumiani Yusoff, Fatimah Kari, 2015. The impacts of climate change policies on the transportation sector.
Energy 81, 719–728.
Speck, S., 2013. Carbon taxation: Two decades of experience and future prospects. Carbon Manag. 4, 171–183.
Sun, R., Kuang, D., 2015. CGE model-based analysis of the neutralized hybrid carbon policy and its decomposed effects on economic
growth, carbon reduction, and energy utilization costs. Chinese J. Popul. Resour. Environ. 13, 43-54.
Temurshoev, U., 2006. Pollution Haven Hypothesis or Factor Endowment Hypothesis: Theory and Empirical Examination for the US and
China. Work. Pap. Ser. 292. Cent. Econ. Res. Grad. Educ. Acad. Sci. Crezh Repub. Econ. Inst.
Vandyck, T., Van Regemorter, D., 2014. Distributional and regional economic impact of energy taxes in Belgium. Energy Policy 72, 190–
203.
Wang, Q., Chen, X., 2015. Energy policies for managing China’s carbon emission. Renew. Sustain. Energy Rev. 50, 470–479.
Wang, Q., Liang, Q.M., 2014. Will a carbon tax hinder China’s efforts to improve its primary income distribution status? Mitig. Adapt.
Strateg. Glob. Chang. 20, 1407–1436.
Welsch, H., Ehrenheim, V., 2004. Environmental fiscal reform in Germany: A computable general equilibrium analysis. Environ. Econ.
Policy Stud. 6, 197–219.
Wissema, W., Dellink, R., 2007. AGE analysis of the impact of a carbon energy tax on the Irish economy. Ecol. Econ. 61, 671 – 683.
Wolfson, D.J., Koopmans, C.C., 1996. Regulatory taxation of fossil fuels: Theory and policy. Ecol. Econ. 19, 55–65.
Yusuf, A.A., 2008. INDONESIA-E3 : An Indonesian Applied General Equilibrium Model for Analyzing the Economy, Equity, and the
Environment. Work. Pap. Econ. Dev. Stud. No. 200804, Cent. Econ. Dev. Stud. Dep. Econ. Padjadjaran Univ.
Zhang, X., Guo, Z., Zheng, Y., Zhu, J., Yang, J., 2016. A CGE analysis of the impacts of a carbon tax on provincial economy in China.
Emerg. Mark. Financ. Trade 52, 1372–1384.

564