Saturday, July 21, 2018

TRUMP, TRADE WARS AND CLIMATE POLICIES




An opportunity to introduce a rational and positive element to retaliatory measures.
Trump’s USA seems to be hell-bent on destroying every element of the pre-Trump international order, the WTO, presumptions in favour of free trade, and US participation in the Paris accord on climate. But a recent piece in Nature magazine proposes a neat way of turning some of this to a climate policy advantage.

The recent tit-for-tat on punitive tariffs has been based first and foremost either on targeting industries that are the source of the grievance, notably steel in the case of Trump, or products where the retaliatory tariff will cause pain in the USA, famously Harley Davidson.

The novel suggestion however is that the prospect of a global trade war provides an opportunity for the introduction of tariffs that, unlike many forms of trade barrier, can be considered to be almost unequivocally beneficial in their effect on human welfare. The suggestion is a simple one. Place the retaliatory tax on the products with the highest carbon footprint, relative to the alternatives of domestic production. Indirectly this will also counter at least to a small degree the environmentally reckless policies Trump and the Republican party are promoting at home.

Ideally of course this should be part of a wider set of agreements on effective carbon pricing, but “border carbon adjustments”, or BCA, clearly have a lot going for them. Nor is the idea new or without political support. “In 2017, French President Emmanuel Macron called them ‘indispensable’ for European climate leadership, and Canadian environment minister Catherine McKenna recommended closer scrutiny. Mexico included them in its Paris pledge” according to the Nature article. The US House of Representatives backed a similar approach in the Waxman–Markey Bill in 2009, but the bill failed to reach a vote in the Senate.[1]

Wholesale implementation, by the EU for example, of such an approach on a global basis would have a number of technical difficulties, but its examination in the context of retaliatory tariffs could provide some interesting outcomes. It would of course tend to hit those states in the USA that are most keen to protect their coal industries. As it happens that includes a number with a strong Republican base.

The other advantage is that what starts as a rather crude device, and as part of a trade war, could also evolve over time to become a significant component of mainstream decarbonisation policy.



[1] California, it is claimed,  has  introduced a version of  BCAs but this is confined to its energy market.

Monday, July 16, 2018

THE ROLE OF TARIFFS IN A LOW CARBON FUTURE




APOLOGIES FOR THE LONG RADIO SILENCE FROM THIS BLOG. THE MAIN CAUSE HAS BEEN HEAVY INVOLVEMENT IN OMS AND OTHER PROJECTS. I'M HOPEFUL OF RETURNING TO A REASONABLY REGULAR OUTPUT, ALTHOUGH THINGS MAY STILL BE QUITE QUIET OVER THE SUMMER.

Redefining how we take our electricity supplies. The complexities of allocating fixed costs. 
And the need to recognise environmental costs through carbon pricing.

It is hard to understate the importance of retail tariffs[1] for the efficient financing and operation of public utilities, and especially in the power sector. Tariffs represent the pricing and charging structure through which most consumers are supplied. They influence how consumers use electricity. Tariffs revenues underpin the returns necessary to pay for utility investment.

To meet objectives of both equity and economic efficiency, it is generally accepted that prices should accurately reflect costs.  This provides a means to coordinate consumer choices, on how much and how they use power, with utility decisions on how they manage, operate and invest in their networks and in their sources of generation. Purchase, as opposed to sales, tariffs set the terms on which small scale producers can sell into the network and are an important influence on the development of decentralised power production in particular.  However, interpretation of how best to reflect costs is, as we shall discover, quite complex and requires careful analysis and judgement.

In the new world of low carbon energy, three important trends will change the way in which electricity is produced and delivered, the shape of future tariffs, and the nature of the service relationship between utilities and households (and business). These trends are Decarbonisation, Decentralisation and Digitalisation (the three D’s), and they impact on tariffs.

Decarbonisation of the energy sector is widely perceived as requiring much greater use of non-fossil electricity to substitute for current fuels in heating and transport. But it also changes the cost structure and operational characteristics of generation technology. It substantially reduces the importance of variable (fuel) costs, which are what largely underpin the design and operation of today’s markets, and raises the importance of capital costs. Low carbon technologies (both nuclear and renewables) are inherently less flexible in adjusting to fluctuations in consumer demand. This raises the importance of managing consumption patterns, and hence of tariffs and price signals, within a coordinating price mechanism for balancing supply and demand in real time.

Decentralisation is implied by the growing significance of small scale producers (also sometimes known as prosumers), by the smaller scale of many renewable technologies, and the increasing importance attaching to management of local network constraints, as electricity plays a large and increasing role in overall decarbonisation strategies. Tariffs, especially those on which small consumers can sell to a public network, should be designed to make an efficient connection between small operators and larger local or national grids.

Finally, digital technologies permit much more complex and sophisticated information and control systems. These can help maintain stable and balanced power systems, enable more sophisticated tariffs and consumer choices, and permit more efficient management of consumer requirements. They are therefore part of the solution.

We need to review many questions on retail tariffs, and establish general principles for development of retail tariffs and retail supply in a low carbon future. These proposals provide a new paradigm within which sector policies can evolve, and a benchmark against which options should be judged.  

The Long Run Marginal Cost (LRMC) Approach

It is widely understood that for both renewable energy (and nuclear power) the marginal cost of generation, defined as the cost of an additional unit of production from existing generation assets, production or from low carbon technologies is close to zero. Setting retail prices at this zero short run marginal cost (SRMC) is clearly not a viable basis for pricing, and making the consumer’s marginal electricity consumption free at the point of use has the potential to create an unlimited demand that cannot be satisfied.

There is however a well-established cost reflective benchmark for approaches to electricity tariffs based on long run marginal cost (LRMC) principles. This is intended to ensure that consumers pay the full incremental costs (at least of generation), including capital costs, that they impose on the power system “Marginal cost (as LRMC) is an engineering estimate of the effect upon the future time stream of outlays of a postulated change in the future time stream of output.”[2]

This implies that the real costs of meeting very different types of load can be very different. High load factor (eg continuous or baseload) loads or those that are well matched to patterns of production will require lower capacity requirements per unit of energy supplied. Low load factor loads, or loads concentrated in winter when generation is cheaper in summer, will be more expensive solar power. This makes the calculation of LRMC, and hence what different kinds of consumption might pay, subject to careful analysis and calculation.  “There are as many marginal costs as there are conceivable postulated changes.” [3]

The importance of digital technologies is that they allow us to think about this kind of cost reflectivity in a much more granular way, and reflect the very different costs implied by different kinds of consumption such as the traditional household applications, electricity for heat pumps, or the charging of electric vehicles. Each of these can have a very distinct load profile, with a very different servicing requirement for the consumer.

Reliability requirements, the differentiated nature of consumer needs, and supplier managed load

The importance of capacity costs also brings into sharp relief the fact that the standard of supply reliability is itself a very important driver of costs. A high standard of reliability, defined as a very low probability of failure to meet the maximum, unconstrained, instantaneous, aggregate demand of all consumers, implies a need for very substantial spare capacity margins. These may be needed to cater for daily and seasonal peak loads, for generator downtime (eg breakdowns) and for weather related fluctuations in renewables output.

However not all consumption requirements need the same level of instant access and reliability. We quite reasonably expect our power need for lighting, or for a television programme, to be met instantaneously. We are likely to have a very different approach to, for example, overnight charging of an electric vehicle battery with perhaps 50 kWh of energy, and be largely indifferent to when it is delivered, eg overnight or even over two or more days. It makes sense to permit the supplier to choose the timing of delivery, within clearly defined parameters, in order to match generation availability and any network constraints. Other loads, such as laundry, or domestic water heating, will also have their own requirements, which the consumer can choose, in relaxing the requirement for instantaneous delivery of power.

What we expect to see in a low carbon future, therefore, is consumers being able to make a selection from a menu of tariffs, with different supply arrangements and prices in each case:

·        Some supplies, eg for lighting circuits, taken at a premium price, with the highest level of guaranteed reliability.

·        Some consumers choosing a lower reliability standard, at least for some of their needs, with a lower price.

·        Some large loads, such as vehicle battery charging or heating, provided on the basis that the supplier manages the timing of energy delivery.

Future systems will place a high premium on pro-active and effective management, based on innovative tariffs and a redefined approach to retail supply, of the use of electricity for electric vehicle charging and domestic heating applications.

Allocation of fixed costs

Generation costs are however only a part of the story. A substantial proportion of total power sector costs reside in high voltage transmission, and even more in the local distribution networks. As with many networks (including road and rail) the marginal cost of accommodating extra throughput (the extra car or train) is, at least in uncongested networks, very low. But the fixed cost still needs to be recovered. How best to do it poses some very difficult questions in terms of reconciling considerations of equity and income distribution, on the one hand, and the efficient allocation of economic resources on the other.

Current UK practice for smaller retail consumers, for example, is simply to average most fixed costs over all units of energy sold. This seems fair, and prima facie results in those who consume most (and might broadly also be those with higher incomes) paying the most towards the fixed costs. However this distorts the economic message, that the actual marginal cost is much lower. When policies for a low carbon economy include persuading consumers to use large amounts of extra  electricity for heating (eg with heat pumps), this becomes a very serious obstacle. For a household consumer, a higher fixed charge in the tariff, and a lower unit energy charge, transforms the choice between using the low carbon solution (electric heat pumps) and traditional fossil fuels (gas or oil). 

Another problem arises with purchase tariffs. These provide an incentive to small scale producers that should, in ideal world, result in consumers installing their own generation when this is “efficient” and results in a reduction in total societal costs. However, if the kWh rate in the purchase tariff is overstated by including an allocation of fixed cost, it will result in too much own generation. There will be no saving in fixed cost and, while the individual consumer with own generation may benefit, a larger share of fixed network costs will be picked up by others.

There are potential answers to this question that not argued in detail here, since they take us deeper into complex policy, political and administrative questions than is appropriate for a short article. Possibilities include the recovery of fixed  costs through property taxes, and approaches in which fixed costs are recovered with differentiation according to the use to which power is put, for example with a higher fixed cost levy on EV charging (a premium use of electricity) than for heating which is in competition with gas.  

Reflecting the substantial environmental and climate costs of CO2 emissions

In the transition to a low carbon economy the case for more realistic levels of carbon taxation, as an incentive to invest in low carbon generation assets, and to minimise the share of fossil fuel in both consumption and production, is overwhelming. However this is not current policy in many countries. The UK currently has a particularly perverse approach in that the burden of renewables innovation policy is loaded on to electricity but not on to other fuels, notably gas. A major plank of low carbon policy is to encourage the use of electricity for heating, through the medium of heat pumps, and to substitute for gas. But the impact of current policies imposes a discriminatory tax on electricity, raising prices and reducing any incentive for consumers to switch from gas. A well constructed carbon tax, by contrast, would increase the cost of gas, restore a level playing field, and tilt the balance of running cost comparisons towards the electric technology of heat pumps. Perversely, recovering the cost of innovation support through the power sector hampers progress towards a low carbon economy.





[1] What we usually mean by a tariff is a set of prices that are published in advance, are open to all buyers (or for purchase tariffs, sellers) complying with a given set of conditions. They contrast with bilateral trading arrangements, and with “market” structures involving multiple buyers and sellers. They provide the standard route through which most consumers, and certainly smaller consumers, obtain their supplies of energy, water, and many communications services. It is quite normal for a supplier to offer a number of alternative tariff structures, between which consumers can choose an option that most closely reflects their needs. They can follow either simple one-part or two-part formats, or have more complex structures.
[2] Ralph Turvey, one of the pioneers, with Boiteux, of LRMC theory in electricity. Turvey, R., What are marginal costs and how to estimate them? University of Bath, 2000.
[3] Turvey, again.

Wednesday, January 3, 2018

THE COMING MINI ICE AGE. NOT QUITE FAKE BUT NOT QUITE TRUE EITHER!


I picked this up with some interest over the Christmas break as family conversations turned to the nature of our cold weather, and the recollection of winters past when the Thames froze – actually something I recall from my childhood although the river did not freeze as far down as London and the tidal sections of the river. The debate was around the possibility of a temporary reversal of global warming, even a mini ice age, perhaps allowing for time for us to find solutions to the greenhouse gas problem and to adapt to change. The idea seemed interesting and prima facie credible, but further investigation emphasised the need for more caution and slightly less optimism. We all agreed this was no reason to reduce concerns over climate.

……………………………………………..

A model of the Sun's magnetic activity suggests the River Thames may freeze over within two decades, experts say.

Global Warming Overridden by “mini ice age” that will plunge UK temperature in 2030, claim mathematicians.

According to research from universities in the UK and Russia, we could be skating on the Thames in just over a decade.

A flurry of headlines on climate science, including Sky News , the Mirror, the Sun, illustrate the difficulties of reporting serious science and the temptations of sensational headlines. The fake news sits in the exaggerated headlines, and in this instance there is an important kernel of real fact which, if the solar activity projections are correct, may be relevant both to expectations about climate and potentially to climate policy.

The story is not actually new, but has resurfaced with some particular publications by scientists working in the field of astrophysics believe they have identified some interesting and potentially important features in the solar cycle.  Solar activity, popularly known as “sunspots”, has often been suggested as a credible explanation of variations in climate over relatively short periods of a few years, with lower activity reducing the amount of energy reaching Earth from the sun. The current story discusses a projected downturn in solar activity over the next 20 – 30 years, starting as early as 2020.  One figure quoted has been the expectation of a 60% downturn in solar activity over this period, although this translates into a reduction in the energy we receive from the sun that is an order of magnitude smaller.

Press reports had quickly transformed this story into the prospect of a mini Ice Age, with the Thames expected to freeze over by 2023, and the possibility that this would save the world from the devastation of climate change   I was perfectly prepared, perhaps being of a gullible or over-optimistic disposition, to accept the reporting at its face value, and to treat the story as mildly encouraging. If it was correct, then at a minimum it implied more time to put in place measures to adapt to climate change, and possibly even to develop the technologies that might allow us to manage or even reverse dangerous concentrations of greenhouse gases (GHG).

A reality check followed. This is what emerged.

The sunspot story.  There is serious research (Professor Zharkova et al) which forecasts coincidence of cycles in the sun’s activity, resulting in reduced solar activity. This will result in less energy reaching Earth, though the reduction is quite small.  Their work presents a model for the sun's magnetic field and sunspots, which predicting a 60% fall in sunspot numbers when extrapolated to the 2030s. Crucially, the paper makes no mention of climate.  A first failure of science communication was the Royal Astronomical Society press release from July 9. This stated that "solar activity will fall by 60 per cent during the 2030s" without clarifying that this "solar activity" refers to a fall in the number of sunspots, not a dramatic fall in the life-sustaining light emitted by the sun. A 60% fall in solar energy would most likely extinguish most life on the planet.

Comparison with earlier “mini ice ages”. This relates to a previous period of "prolonged sunspot minimum", the so-called Maunder Minimum, between about 1645 and 1715, which coincided with unusually cold weather believed to have a significant influence on climate. There is therefore some historical evidence, even after allowing for the more limited nature of observation and measurement in that period, of low solar activity being associated with significant cooling.

However even this assertion must be qualified. That mini ice age began before the Maunder minimum and may have had multiple causes, including the incidence of volcanic eruptions. Moreover the previous mini-ice age will almost certainly have built gradually, with ice cover an important part of the mechanism. Whether that mechanism can be relied on in the immediate future, with shrinking ice caps, is more debatable.

Will it reverse global warming?  The warming effect from more CO2 greatly outstrips the influence from changes in the Earth's orbit or solar activity, even if solar levels were to drop to Maunder Minimum levels. There is 40 percent more carbon dioxide in the air now than during the 17th century. A new Maunder Minimum might slow climate change, but it is not enough to stop it. Some estimates however suggest an effect on global temperatures of about a 0.3oC reduction. If correct, this is a substantial and welcome effect.

Should we relax our efforts to reduce emissions?  The answer is clearly not. A Maunder Minimum may conceal some of the underlying warming trend for a period, but the solar cycle will of course revert at some point, with an acceleration of warming. Reacting to a short term movement in what is now a well established trend would be dangerous or even disastrous on a longer term perspective.

Conclusions. This is an interesting and important element in the science, although it is still imperfectly understood. We may well see a Maunder Minimum effect, although it seems unlikely to freeze the Thames in any of its tidal range. What is important is that we are able to interpret the effect as accurately as possible as we observe global climate in the years ahead.

Friday, November 3, 2017

HAVE THE UK’S ENVIRONMENTAL POLICIES RESULTED IN UNNECESSARY RISES IN HOUSEHOLD ENERGY BILLS?



That is one thesis of Dieter Helm’s latest report for the UK government, a review of the cost of energy. Helm attempts to bring some rigorous economic analysis to economic and environmental policy that has often appeared to consist largely of ad hoc patches and “initiatives”. However the report has attracted criticism, notably from Richard Black, Director of the Energy and Climate Intelligence Unit, who argues that the report is lacking on evidence, even on such simple questions as the actual extent of energy price increases, or whether the UK really is seriously out of line with other European countries.

One particular criticism appears to hit home, the accusation that Helm has simply cherry picked the data, using 2004 as a base year, even though it was characterised by unusually low energy prices. This, Black claims, is the kind of dishonest twisting of evidence practised by climate policy sceptics such as Lawson and the Global Warming Policy Foundation (whose work is addressed on another page). However the broader divide is between Helm, who, like many economists, has a strong preference for more direct carbon pricing approaches, and Black, who argues that in an imperfect world, we should be more prepared to accept a “mixed” approach.

There are other nuances. Black attempts to link Helm with Lawson, both having been significant witnesses in front of the House of Lords Select Committee, whose rather inadequate report appeared earlier this year. This seems unfair to Helm. I have commented before[1] on the weaknesses of the Select Committee report but Helm has little in common with Lawson’ refusal to accept the evidence and logic for warming provided by climate science.

It’s worth making a number of points on the general subject of energy prices and carbon taxes and their place in relation to climate policy. Regular readers of blog will have heard some of these arguments before, so please excuse the repetition.

First, the exchange rate is a much more important driver of international competitiveness than energy. Significantly we have heard very little about industrial energy prices since the Brexit induced fall in sterling. In part this may be because Brexit is a much more serious existential threat to the UK economy, but mainly it will be because the UK comparative position will now look much better.

Second, economists rightly stress the virtues of a rational approach which far prefers a transparent carbon tax or price to ad hoc policy interventions that can have unfortunate or even perverse consequences. However, as Black clearly feels, the real world is sometimes more complicated. The truth is that the EU ETS, the only international carbon pricing mechanism to which we currently have access, has been a dismal failure, not producing a realistic carbon price, and again this has been the subject of earlier commentary. Unsurprisingly most member states have adopted additional measures in a similar manner to the UK.

Third, if the UK were to adopt carbon taxes at a level that reflected the long term social, environmental and long term damage, it would need to be fairly substantial. A figure of £100/tonne of CO2, for example, which is well above most estimates of the point at which baseload nuclear becomes economic, but well below any estimate of the carbon sequestration from the atmosphere, would add nearly 4p/kWh to the unit price of electricity generation (given the current mix). This is if anything rather higher than the cost of current policies.

This should help us put the issue in perspective. It is of course true that recovery of public policy costs through utility prices is an unsatisfactory way of doing things. As we may see, in future comments, it is an approach that becomes unsustainable in a world where, increasingly, customers can try to escape this form of “tax” through their own generation.  But that is an interesting subject for another day.







[1] In this link and the two subsequent postings

Tuesday, October 17, 2017


GLOBAL WARMING. POSITIVE NEWS BUT A THREAT UNDIMINISHED

A recent (September) article in the journal Nature Geoscience has been quite widely reported as an indication previous scientific studies have over-estimated the extent of global warming. Many followers of climate science and observers of climate policies will have been surprised by some of the headlines. Not least, the stream of evidence over the last few years has, even to a casual observer, indicated global temperature increases very much in line with a strong upward temperature trend. Other indicators such as the rapid decline in Arctic sea ice, have offered little comfort, or suggestion that any of the earlier projections have been overestimates.  

Has this turned out to be entirely a good news story? How has it been reported? And will it have a positive impact on the promotion of effective climate policies? Closer examination reveals some important qualifications, some additional information and potential for some dangerous misinterpretation of a piece of serious climate research. The worst possible conclusion to draw is that these revised estimates in any sense reduce the sense of urgency that should attach to climate policy.

First of all clarify what the paper actually tells us.

Just clicking on the Nature Geoscience link provides an abstract of the paper itself, a technical and suitably restrained summary of some recent climate modelling work based around, inter alia, a number of estimates of climate system parameters from the IPCC Fifth Assessment Report. It is reproduced at the end of this comment for the benefit of readers. In the abstract, the authors (who include my colleague Myles Allen from the Oxford Martin School) avoid dramatic language, and the strongest claim with obvious policy relevance was that “limiting warming to 1.5 °C is not yet a geophysical impossibility”.

The backdrop of course is that the Paris agreement adopted an aspirational target of 1.5 oC of warming, which had widely been seen by many climate experts as now beyond reach, even on the most optimistic policy assumptions. The relevance of the article is that, while many scientists may previously have estimated that the remaining “budget” of future CO2 emissions consistent with the target was impossibly small, the revisions suggest it may be larger, and closer to what is attainable tyrough effective policy. If the glass of acceptable CO2 concentration really is only 92% full rather than 98%, then the budget is four times as big. But four times a very small number is still a very small number, as the authors emphasise.

And some balancing bad news

Another report, due to be published shortly, but whose findings were previewed at the Oxford Energy Day, (Pfeiffer et al) has some much less welcome findings. Power generation, which currently contributes some 30% of CO2 emissions, is on course to emit much of the headroom identified as available for the 1.5 °C target. Currently operating power generators will absorb 41% and generators in pipeline another 36%, unless closed prematurely, underutilized or retro-fitted with CCS. This reduces the already very tight headroom for other (much harder to decarbonise) sectors, and for other GHGs.

How was the story reported?

First reports in the British press were on the whole fairly accurate. Typical was the Independent [or rather The I]. Computer modelling used a decade ago … may have forecast too much warming a study has found. The study does not play down the threat which climate change has to the environment, and maintains that major reductions in emissions must be attained.  But the findings indicate the danger may not be as acute as was previously thought.

Then the commentators moved in. Comment by Graham Stringer MP in the Daily Mail, for example, verged on the hysterical. This and similar comment from sources such as Breitbart led the authors to respond forcefully in The Guardian on the misrepresentation of their research.  

But do these revised estimates cast doubt on the wider credibility of climate predictions, or lead us to consider whether the urgency of climate policy is understated.

Wider credibility of climate policy. Is warming still happening?

The first point is easily answered. The potential revisions under discussion all lie comfortably within the range of future projections. They are in effect a small scale adjustment comfortably within the range of possible outcomes. The main reason for their potential importance is that they provide, prima facie, a slender piece of evidence that the 1.5 °C target may still be attainable.

Anyone still seduced by the views of Lord Lawson, the GWPF and others, that warming stopped in 1998, should simply examine the global temperature measurement of the last few years. The Lawson argument seized on an exceptional el Nino year (1998) and pretended that no warming could be detected. [El Nino events tend to produce substantial blips in temperature. This was always an entirely  specious argument, and is addressed in more depth elsewhere on this site (on the page SCIENCE VS SCEPTICISM),  and a wilful ignoring of the underlying temperature trends. Its fallacious nature was underlined, at least visually, by the return of an el Nino in 2015 and 2016, breaking global temperature records in successive years.

Does the extra headroom give us any reason to relax the urgency of climate policy?

We have already identified several reasons why not:

·         the scale of the downgrading is relatively trivial and well within the predicted ranges; in this sense it is no  more than a minor adjustment to best estimates proposed by one of the entities currently modelling climate

·         the small amount of extra emissions headroom in  is roughly equivalent to the “bad news” on fossil power generation, although much of this is, implicitly at least, already factored into policy making

At a deeper level though we need to recognise that there are some even more important fundamentals.

·         One is that the targets, whether for 1.5 °C or 2.0 °C, are to a large extent arbitrary. We do not know with real confidence that either is even “safe”, although they are often described as if they represented some kind of hard border between safety and disaster. Normal caution, of the kind we would exhibit in other contexts, should be the real driver for policy.

·         The second fundamental is that even much smaller levels of warming will have serious adverse consequences, some of which we are starting to see in changing weather patterns and the higher incidence of extreme events. There is therefore a massive social cost from the levels of emission that we have allowed to date. The corresponding benefit of urgent action is huge.

·         The third fundamental reflects ideas from the theory of rational decision making. There is a huge option value to slowing down the rate of change in climate. It provides extra time both to meet targets, to prepare defences against the worst consequences of extreme warming, or to mitigate them through currently impossibly technologies for carbon sequestration.
........................................................


Abstract. The Paris Agreement has opened debate on whether limiting warming to 1.5 °C is compatible with current emission pledges and warming of about 0.9 °C from the mid-nineteenth century to the present decade. We show that limiting cumulative post-2015 CO2 emissions to about 200 GtC would limit post-2015 warming to less than 0.6 °C in 66% of Earth system model members of the CMIP5 ensemble with no mitigation of other climate drivers, increasing to 240 GtC with ambitious non-CO2 mitigation. We combine a simple climate–carbon-cycle model with estimated ranges for key climate system properties from the IPCC Fifth Assessment Report. Assuming emissions peak and decline to below current levels by 2030, and continue thereafter on a much steeper decline, which would be historically unprecedented but consistent with a standard ambitious mitigation scenario (RCP2.6), results in a likely range of peak warming of 1.2–2.0 °C above the mid-nineteenth century. If CO2 emissions are continuously adjusted over time to limit 2100 warming to 1.5 °C, with ambitious non-CO2 mitigation, net future cumulative CO2 emissions are unlikely to prove less than 250 GtC and unlikely greater than 540 GtC. Hence, limiting warming to 1.5 °C is not yet a geophysical impossibility, but is likely to require delivery on strengthened pledges for 2030 followed by challengingly deep and rapid mitigation. Strengthening near-term emissions reductions would hedge against a high climate response or subsequent reduction rates proving economically, technically or politically unfeasible.

Tuesday, July 4, 2017

G20 POLITICS, TRADE, AND CLIMATE.


This blog will remain quiet over the next several weeks as the author is also working on some substantial papers about low carbon issues, not to mention some summer relaxation.

Angela Merkel has indicated she will not shrink from confrontation with Trump in the forthcoming G20 talks, where free trade and climate change are both on the agenda. I suspect this is a good demonstration that trade, energy and climate will increasingly be interlinked in international affairs. Trump of course has unconventional notions of what free trade actually is, and, albeit somewhat incoherently and inconsistently, seems wedded to the view that the threat of climate change is some kind of hoax. Nations that have committed to Paris and are following through on low carbon technology and investment are not going to take kindly to unfair competition from producers who can undercut them by refusing to take climate policy seriously.  Some economists have even gone so far as to propose border adjustment taxes, a form of tariff on imports, to level the playing field. Trump’s position is in any case inexplicable even in normal rational terms of US self-interest. But this row will also put the UK’s own Brexiters somewhere between a rock and a hard place. Will they go with the rest of the world, or will they follow Trump, the DUP, and the apostles of right-wing fundamentalism – Lawson, Redwood, Rees Mogg etc, in the delusion that the clear messages from the science on climate change are simply wrong?

One of Trump’s most important bases for political support is the “rustbelt” regions of coal and steel, which have suffered dramatic economic decline in recent years. Part of the story, for coal at least, is that it is being pushed out of the energy mix in the US by the success of fracking in making the US close to self-sufficient in oil and gas. Inter alia this has also had some knock-on effects, reducing the price of coal on world markets, and increasing coal consumption in some EU countries. So trade has been at least a partial relief for a hard-pressed US coal industry.

More generally Trump’s policies seem to care little for the “left behind” in the rustbelt. One possible reconciliation, between declining coal and a rising urgency for action on climate, might have been investment in carbon capture technology, widely seen as an essential technology for a low carbon future, simultaneously protecting or even increasing domestic coal demand and providing new jobs in infrastructure, but that option has not even featured on the radar. Trump prefers to stick to the unthinking slogans of his campaign, professing support for American jobs while doing little in reality to support the “left behind”. In fact an isolationist US that ignores new low carbon technologies will most likely cost American jobs, probably in the short term and certainly in the long term.

Brexit, Free Trade and the Hard Right in the UK

But another interesting paradox is the position of British politicians now trying to take the UK out of Europe, and out of the single market and customs union, in the interests of more free trade in a global environment that will be increasingly unfriendly to countries that choose to ignore their responsibilities on carbon emissions. An important part of the “official” argument for leaving the EU was for free trade with the rest of the world, but a very large part of political establishment support for Brexit also coincided with vigorous opposition to taking any action on climate – Lawson, Redwood and Rees Mogg being just three of the more extreme polemicists in this area[1]. Outside the “establishment” UKIP and Farage have followed the same line, and I drew attention in earlier postings to the close correlations between support for Brexit and opposition to climate policies. This was evident not just among politicians, but among Leave supporting economists, including Leave’s most prominent economists Patrick Minford and Roger Bootle, who argued that exiting the EU would enable the UK to escape EU regulations on climate change.

To be fair to Minford, he was at least in some respects consistent, arguing both that trade deals, post Brexit, were an irrelevance, and that the UK should accept the further decline of its manufacturing base, concentrating instead on services. But, unsurprisingly, that has not been the Leave political line, nor would it have played well with Leave voters in the North of England. 

May’s government, faced with the appalling consequences of actually leaving the single market and the customs union, is however desperate to be able to demonstrate the prospect of a lucrative new trade deal with someone else. Step up to the plate, the UK’s largest trading partner after the EU – the USA and Mr Trump. Never mind the negative sides of such a deal for British farmers and consumers, the reality is that Mr Trump appears to believe in bilateral balances, the next best thing to barter in the modern world. Since the UK has a surplus with the USA, one of the few major economies for which this is true (it is in deficit with the EU for example), this looks like a recipe for disaster in any trade deal. Opposing Trump on climate matters is hardly going to help.

In fact May is now signalling solidarity with Merkel on climate at least, although whether we should put this down to the UK’s legal obligation under the Climate Act, or to a growing realisation that perhaps the EU does matter after all, not to mention global climate, is not clear.

Trade, Climate, and Carbon Taxes

If nothing else the prospect of conflict on both climate and trade, in the forthcoming G20, demonstrates the potential for close political connection between the two. But the inseparability of the issues has always been clear, however much that may upset the ideological position of most of the Brexiters. . A corollary of “free and fair” trade means, in a post Paris world, going along with what is now the global consensus on climate. Defaulters cannot be allowed to compete on an equal basis with countries who are taking measures that may damage their competitive position. This idea also sits behind the EU’s understandable, though not very effective or successful, attempts to establish an EU-wide arrangement for trading emissions. This at least provides a level playing field for intra-EU trade.

Two Oxford economists, Hepburn and Helm, have long proposed, most recently in a February 2017 letter to the FT, a carbon border tax.  Lakshmi Mittal made the case for a carbon border adjustment to put European steel on a level playing field with global competitors, to inhibit “leakage” of emissions to other countries. Hepburn and Helm simply extend the argument to other energy or carbon intensive sectors. It is increasingly clear that carbon taxation regimes are likely to be more effective than rather inflexible emissions quota trading. Needless to say, such a regime would have major ramifications for trade. Not least it would have demolished the cost advantages for EU generators in switching to cheap US coal dumped on world markets. Even if it has yet to gain much political traction, the idea of carbon border taxes emphasises the close interactions of trade and climate policies.

           



           





[1] The Brexit trio of Johnson, Gove and Davis also have form in this area, but are somewhat more nuanced.

Thursday, June 29, 2017

COST OF CAPITAL ARGUMENTS AND CLIMATE POLICY. PART ONE.






Debates on policies to combat climate change often include a collection of long running arguments around the cost of capital, or the time discount rate for comparing costs and benefits. These were prominent in arguments over the recommendations of the Stern Review, mainly in attempts at a cost benefit analysis (CBA) of the public policy case for action to mitigate climate change. But assumptions on cost of capital do also matter a lot in what are now the very real questions of comparing alternative investments to reduce emissions. And of course the actual cost of capital employed will have a major impact on the affordability of future energy use, and prices to consumers. Sadly this is one of the areas where the disciplines of economics and finance have been at their weakest, in failing to provide a rigorous and consistent approach to the subject, at least in relation to the public discourse.



Let us start with the public policy arguments around climate policies, and the claim sometime made that the case for action depends on the assumed discount rate, the rate at which we discount the significance of future benefits or costs. One version of this argued that the costs calculated by Stern[1] could only justify action to mitigate climate change if the time discount rate could be assumed to be 1% or lower. Given that even a modest probability of human extinction (or more realistically of the massive forced reductions in population of the kind against which some environmentalists warn us) might be considered to have a near infinite cost, the approach was always intrinsically unlikely to convince anyone. At times, much of the debate on this subject resembled nothing so much as the supposed[2] discussions of mediaeval scholars as to how many angels could stand on the head of a pin.

The real problem in these arguments was the weakness of a cost benefit approach in dealing with systemic risks and possible catastrophes on a long term and global basis. CBA is usually targeted on situations where the alternatives can in some sense all be considered “at the margin”, Inter alia it became increasingly clear that the real problem lay less in evaluating notional GDP projections in alternative climate scenarios, and much more in the climate induced consequences, including migration and conflict. These considerations were compounded by the problem CBA has in dealing with uncertainty and with risks that are not amenable to simple probability quantification. Add to that the nature of the potential risks, which are on an unimaginable scale, and it ought to be clear why the calculation of the costs of a dystopian future, for comparison against an almost equally impossible set of counterfactuals as a baseline, is a rather futile exercise.

Economic models designed for fairly simplistic macro-economic analysis (and they often prove to be not very good even for this relatively straightforward task) were applied to timescales and hypothetical events well beyond their design capability, and it was quickly recognised that they did not come remotely close to capturing the true nature of climate risk. What is now accepted, and is implicit in the international acceptance of the Paris agreement, is that the risk of climate catastrophe is simply too big to be borne, and that mitigatory or remedial action is therefore a necessity.

Fortunately this part of the argument over climate policy is now settled in the public domain, with almost all[3] nations united in their recognition of the need for actions of the kind indicated in Paris[4].  Cost of capital arguments were ultimately of little importance in determining the fundamental imperative for policy action in relation to climate. Even so the arguments were revealing in the differing attitudes they uncovered. Nigel Lawson’s polemic[5] against science driven climate policies argued strongly that we should care increasingly less for the futures of our grandchildren or more remote generations, arguing for much higher discount rates, of the order of 10% or more, largely on the grounds that these were closer to the target rates applied in business decision making.

The impact of discounting at such high rates makes damages a 100 years hence worth a very small fraction in terms of today’s values. Unfortunately for this argument, and as we suggest above, the scale of the perceived risk – sometimes stated in worst case scenarios as a forced population reduction of many billions - can also be described as almost infinitely large, and this is clearly the position implicit in what we might describe as the “Paris consensus”.

The Lawson position was, I suspect, based on a profound misunderstanding of how business works, especially in extrapolation of the most superficial approaches to investment appraisal. It may reflect multiple confusions over the way businesses treat investment appraisal, the debt and equity balance, use of real or nominal rates, and the appropriate assumptions about market correlation, which are a major feature of the standard CAPM model of finance. Another interesting corollary of using a high discount rate would, of course, be that it would not be necessary to set aside any significant sums today for nuclear or other decommissioning in 100 years time. Needless to say this is not an approach that is argued very often.

Lawson’s hypothetical rates are so far from the actual rates of return achieved in most business, most of the time, that we must assume one of two things. Either business is incompetent in investment appraisal, or Lawson just does not understand the subject. As he was perhaps one of the less able Chancellors of modern times, and remains someone who clearly fails to get to grips with climate science or the interpretation of statistics, the latter seems more likely.
The reality seems to be that, under the right conditions, major projects can be financed at very low real rates of interest. But that is an important issue to which I hope to return.  The subject remains important in practical terms, both for choosing investments and making them affordable.



[1] To give credit to Stern he never proposed CBA as a main driver of policy, and his post-Review thinking on the subject gave much more weight to the catastrophe avoidance arguments.
[2] In fact this may be an early modern fabrication, or simply an illustration of a category error in a more substantial metaphysical discussion.
[3] The exceptions being Trump’s USA, and Nicaragua, but the latter on the grounds that the proposals did not go far enough.
[4] The reality of actions is of course far less clear, but there is progresss.
[5] An Appeal to Reason.  Nigel Lawson. Duckworth Overlook, 2008.