Climate-change policy: the challenge to economics

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Climate-change policy the challenge to economics

• Tom Hickson scientists gt 99 in agreement about
  anthropogenic global warming (AWG)
• Economists and policy-makers in less agreement,
  but here is where things get really divergent.

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What to do about it

• Nothing--rely on adaptation
• Do something, but how and what?
• GHG abatement
• Technology research
• Sequestration natural and technological
• Cap and trade
• GHG (carbon) taxes
• Preparation for catastrophic events
• Do something, but how much?

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Most favor doing something

• Benefit Cost Analysis is VERY difficult
• Stern Review
• British study
• Used very low discount rateputs heavier weight
  on potential future
• Mainline economists
• More gradual policy ramp
• Argument early resources better spent on
  technology and human capital

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Some difficulties with BCA/CBA

• Big uncertainties about the discount rate (r)
• Big uncertainties about the probability and
  magnitude of a catastrophic event outgassing of
  methane, loss of Greenland or Antarctic ice
  sheets, etc.

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Lets consider some issues with r

• Many philosophers and ethicists argue for r 0,
  or at least very low
• They argue that it is wrong to place less weight
  on the well-being of future generations
• The Stern Review comes close to this

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An experiment with economic growth and low r

• Economic growth of 1.3 annually (from Stern)
• r 1 0.01
• Now suppose our actions today reduce future
  consumption by 0.1 (1/10 ) starting in 200
  years and continuing forever.

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• Approximate current per capita consumption is
  10,000 (with very unequal distribution)
• In 200 years it would be approximately 130,000
• A 0.1 (.001) decline would be 130, the present
  value of which 200 years out would be 130/0.01
  13,000
• Discounting 200 years back to the present at r
  0.01 gives us a PV of approximately 1777 of
  damages

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Where does CBA get us?

• Would it make sense to ask the current generation
  to go 10,000 1777 8223.
• .to prevent folks 200 years and beyond from
  going 130,000 130 129,870?
• This is a simple thought experiment, but it
  alerts us to the implications of low r

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Big uncertainty 1

• What discount rate to use
• The great economist Tjalling Koopmans (1975 Nobel
  Prize in Economics) cautioned that we should
  never get wedded to a particular idea for the
  discount rate until its implications are
  understood

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What about catastrophes?

• This is another HUGE wildcard in the CBA debate
• What and how much to do are very sensitive to
  assumptions about probabilities and magnitudes
• CBA works pretty well when dealing with E(X) and
  known probabilities from estimable probability
  density functions (PDF)

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Ordinary risk analysis under conventional
uncertainty

• Works well when we have a good idea of PDFs and
  probabilities
• Insurance companies
• Risks of morbidity and mortality due to exposure
  to pollutants
• This type of risk analysis is backed up by loads
  of data

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Profound uncertainty

• The analysis of probabilities associated with
  climate catastrophes has an extra layer of
  uncertainty
• We are uncertain about the probabilities and PDFs
• It is less about risk analysis and more about
  trying to resolve how uncertain we are about the
  uncertainty we face

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Climate Change Background CO2 emissions from
fossil fuels (2004)
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Climate Change Background per-capita CO2
emissions from fossil fuels (2004)
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Kyoto Protocol (1997)

• 150 nations
• Task was to create a legally-binding
  international agreement on climate change.
• Targets and timetables
• Reduce ghgs in aggregate by 5.2 from a 1990
  baseline for the 2008-12 time period.
• Targets are differentiated by nation (U.S. is
  7).

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Kyoto Protocol (1997)

• Allowable policies
• Emissions trading.
• Joint implementation one country gets credit
  for implementing a project to reduce carbon
  emissions from another country.
• Carbon sinks land and forestry practices that
  remove carbon emissions

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Kyoto Protocol (1997)

• 127 countries have ratified agreement.
• Participating countries account for 62 of ghg
  emissions.
• Russia was last country to ratify.

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U.S. Developments

• Signed Kyoto Protocol in 1997.
• Byrd-Hagel Resolution in U.S. Senate (1997)
• The U.S. should accept no climate agreement that
  did not demand comparable sacrifices of all
  participants.
• Passed 95 to 0.
• U.S. pulled out of Kyoto in spring 2001.
• Regional Greenhouse Gas Initiative (RGGI underway
  in 2009)
• Regional cap-and-trade program.
• Northeastern states.
• Pacific states considering their own
  cap-and-trade program.
• Regional trading program being planned for this
  region

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Economics of Climate Change

• Issues underlying costs of controlling ghgs
• How quickly can society change its energy
  systems?
• Can technology change fast?
• How willing and able are consumers to substitute?
• How flexible will climate change policies be?
• Will marginal cost of controlling ghgs be lower
  in future?
• If green (corrective)taxes are used, will
  distortionary taxes (e.g., income) be lowered?

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The Broad-then-Deep Strategy

• A broad set of countries should make small cuts
  today and progressively deeper cuts in the
  future.
• Damages occur gradually and catastrophes are
  highly uncertain and in the future.
• Mitigation costs are likely to fall over time
  with increasingly cleaner technology.
• Strategy ensures that payoffs to countries for
  joining a coalition will be higher.

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Debate on Kyoto Protocol

• Critique of Kyoto Protocol a deep then broad
  strategy.
• Only developed countries make deep cuts today.
• No provisions for bringing in developing
  countries.
• Support for Kyoto Protocol
• Developed countries are most responsible for
  current levels of ghgs.
• An agreement is better than no agreement.

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• Have a good summer!