The author is a Senior Visiting Research Associate at the Environmental Change Institute, University of Oxford and a Senior Research Fellow at the Oxford Institute for Energy Studies. For the blog, short topical comments, go to HOME AND BLOG page. Click BLOG below the photo to get to recent blogs, or click a subject for blogs or archived items by topic. The navigation bar will take you to other pages for more substantial individual commentaries, eg SCIENCE VS SCEPTICS, or site navigation.
The theme for the 2013 BIEE seminar series on
energy policy and climate was Climate Policy in Crisis. This reflected
perceptions of a growing gulf between, on the one hand, aspirations for tight
emissions limits based on the imperatives indicated by the climate science,
and, on the other, the widespread projections of close to “business as usual”,
with relatively minor modifications to emissions trends and continuing growth
in global emissions.
Following the conclusion of the series this year a
number of us decided to set out a summary of what we felt to be the current state of
knowledge and analysis on this subject, starting with an appreciation of what
understandings could be drawn from climate science and proceeding through
an economic rationale for policies to limit greenhouse gas emissions, the
realism of prospects for global agreements, through particular issues
associated with policy instruments in markets and regulation, and concluding
with some observations on political and economic priorities at national (eg UK)
or regional (eg EU) level. This paper builds on that note and is a
reflection on a “state of play” and on how, in the broadest terms, we should be
examining the climate issue.
REVIEW OF THE SCIENCE
Science continues to be incremental in adding
evidence and understanding on climate questions, but there has been no
fundamental change in the messages that we can draw. There are known
imperfections and anomalies in our understanding of the processes involved and
our ability to reconstruct the past, and limitations to the predictive power of
climate modelling. Substantial uncertainties remain, therefore, both around
particular features of how climate systems work, and around the climate and
consequential human and economic outcomes that would result from different
atmospheric concentrations. To a significant degree these reflect imperfect
understanding of the factors responsible for natural year on year variations in
temperature and climate, and the difficulty in distinguishing these from
However none of these qualifications provide
significant comfort on the very high risks associated with major climate
change; nor do they challenge the general conclusions that can be drawn from
the strength of the underlying science. These are best summarised as the
presumption that continued increase in atmospheric concentrations of CO2 , and other greenhouse gases
(GHGs), is at best a dangerous and possibly a catastrophic experiment with the
planet. The same messages, in essence, can be drawn from reports or reviews
presented in the last year by the IEA, the
IPCC and the UK’s Committee on Climate Change (CCC).
The reported projections from climate modelling have in essential respects been
remarkably consistent over several years.
In the context of national and EU policies, it is
worth noting that the 2oC
aspiration and associated emissions targets are based not on the optimal
achievable outcomes but on the best available estimate of the maximum global
temperature rise that provides a reasonable chance of escaping much more
serious or catastrophic consequences.
However while the scale of the issue is widely
recognised if not universally accepted, there are also fundamental features of
the science that are understated or ignored in policy making. Most important are the cumulative nature of emissions, especially
for CO2, the consequent irreversibility
of the processes involved, and the long time lags between cause (atmospheric
concentration levels) and their full effect on climate. This should lead to
much more emphasis on a number of principles.
The first implication is recognition of cumulative
emissions as the primary target for policy. It is the cumulative stock of
atmospheric CO2 (the most significant GHG)that matters, not the level of
annual emissions per se. Inter alia this attaches a significantly higher
value to reducing current and near term emissions. Early emissions that
persist indefinitely have an effect for longer and will bring forward
particular atmospheric concentration milestones and climate consequences; this
reduces the options both for future amelioration and for adaptation. National
targets should, for equity and other reasons, focus on cumulative emissions in
any well designed global agreement.
The second is recognition of the significance of
current or near-term policy decisions in maintaining, improving or foreclosing
future options. The key factors here are the substantial irreversibility of
cumulative emissions (of CO2 if not of some other GHG) and the long time lags
involved. Options theory suggests that the highest benefit
often attaches to avoiding irreversible actions.
It is early action for immediate emissions reductions that provides more
options for the future, since it is current emissions that are irreversible
actions. The notion that options can be kept open at low cost by a policy of
“wait and see”, pending some future appreciation of the long term economic and
human consequences of inaction, is the opposite of the truth.
Maintaining and improving future options by early
action should therefore be the highest priority. Early reduction in emissions,
globally, has several “option benefits”. It postpones “climate
milestones”, the dates at which any particular concentration of CO2 is attained. It therefore allows
more time to develop low carbon alternatives. It also allows more time
for more effective adaptation to the future adverse impacts of rising
atmospheric concentrations of GHG, some of which are now unavoidable.
A corollary is that the cost of delay is high. For
any given target or acceptable limit to CO2 concentration, failure to take timely early
remedial action implies larger, more costly and more disruptive remedies at a
later date, as well as earlier and more severe climate impacts. Costs
include those of accelerated replacement of capital stock and significant
stranded assets. The CCC has recognised and analysed at least some
aspects of this issue explicitly in its recent report.
Ceilings on cumulative emissions imply very tight
carbon budgets. Attempts to limit cumulative emissions to levels consistent
with a high chance of limiting global average temperature change to 2o C are, in global terms, becoming
very close to unachievable. This does not mean that
mitigation policies can be abandoned, simply because targets may not be met. It
does mean tighter future carbon budgets and more costly measures in mitigation
than might have been required with effective earlier action, or higher risks of
adverse outcomes across a wide range of food and environmental issues, or both.
THE ECONOMIC JUSTIFICATION FOR
The scientific prognosis, therefore, points to very
substantial risks of severe adverse or even catastrophic outcomes,
corresponding risk to the value of existing physical and human capital, and the
potential for additional global conflict as climate change leads to increasing
competition for water, food and habitable land. Given the scale of risk,
formal arguments over the economic case for action on climate, at least in a
global context, may seem superfluous in what many see as an essential and
prudent course of action. However failure to make a sound and compelling
economic case would weaken the arguments for policy action, and effective
formulation and presentation of the real case has proved surprisingly challenging.
Conventional applied economics, in the form of cost
benefit analysis, has displayed some serious shortcomings in dealing with
issues of this magnitude. The problems are both conceptual and practical.
Conceptually they reside in the difficulties of dealing with risk and
uncertainty, non-linearity, non-marginal changes and non-market effects, and
the appropriate rate at which to discount future costs, or “inter-generational
discounting”. The major practical problem is the widely perceived
inability of conventional macro-economic or integrated assessment models to
capture the complexities, or indeed the potential scale, of the major economic
and social disruptions that are considered as likely consequences of
significant climate change (a fact that should provide little comfort).
In consequence the economic argument still needs to
be stated in a fuller and more rigorous way. This requires a decision
theory context that deals more explicitly with issues of risk and uncertainty,
including choices between mitigation or remedial action, evaluating the
possibility of a simple technical fix (such as low cost carbon sequestration),
and maintaining options that provide for an acceptable future.
This would represent major improvement on the cost
benefit approach that has, implicitly at least, tended to dominate debate
hitherto, and would be closer to “risk of ruin” approaches adopted in the
insurance industry. Done effectively, a more compelling argument could
increase public acceptance of policies aimed at damage limitation.
However the essence of the case is clear, and is
largely summarised in this note. If we believe there is a significant
risk of truly severe adverse or even catastrophic effects from climate change,
then we should note that the costs, even of the very substantial actions to
mitigate change, are in reality quite modest in relation to other shocks that
global and national economies have endured in recent decades, including oil
price shocks and recessions induced by financial sector mismanagement. In
terms of an insurance analogy the premiums would be very modest in relation to
the scale and risk of the really adverse outcomes, even if these were of
relatively low probability – a comforting assumption that has little or no analytical
INVESTMENT ISSUES AND COSTS
Turning to the important issue of costs within an
economic argument, climate and emissions policy emphatically does not
currently, nor in the foreseeable future, present a major macro-economic
problem. On a macro level, dealing with climate change, if done early
enough, is relatively low cost and the investment and other expenditures
involved are relatively small.
To put into perspective, the cost of mitigation
measures has typically been estimated to be around 1-2% of GDP. Even if
it were somewhat higher than this, the cost is, in relation to national
economies, of comparable scale to, for example, the effect of oil and gas price
movements of the last decade which most Western economies have handled without
major disturbances. Compared with these, or the effects of shifts in fiscal
policy, or the effect of the financial crisis, with major economies at 15%
below trend, the impact of climate policies, on growth and standard of living,
should appear as relatively small and manageable.
The problems arise primarily through numerous
micro-economic issues, the many distributional and perceived competitiveness
impacts, the effects on particular interest groups, and the difficulties in
managing those effects. But these should not be magnified into
unsupportable arguments that world economies “cannot afford” action.
A part of the concern over cost has been concern
with financing issues. But there is no reason to suppose that capital
availability, or its cost, should be a real constraint on mitigation.
Globally, capital has never been so plentiful or so cheap. Its
deployment in the energy sector, for low carbon generation, and “utility” and
infrastructure activities, is intrinsically a low risk and hence modest reward
set of investments, and should always be considered as such. (This is certainly
so in any application of conventional capital theory.)
Any failure to secure investment capital on
reasonable terms can therefore only result from a poor allocation or appreciation
of risk, of which the prime cause is poor or absent policy frameworks, policy
uncertainty and lack of policy commitment. This emphasises the role of
government. Getting financing arrangements right, in this case through clear
policy and regulatory commitments, is a critical policy instrument.
Establishing a valid case for action leads on to
consideration of policies to achieve better outcomes.
POLICY FRAMEWORK AND POLICY
Road maps are the first step. The broad
policy framework required by governments engaged in action to reduce emissions
is clear. The first requirement is a clear pathway that allows the major
tasks to be identified and sequenced. Indicative projections have an
essential role in identifying the sequencing of the major infrastructure and
other investments, and provide a road map for policy and investment strategies
for all parties. The work of the CCC in the UK provides a useful
The most important element within almost any
national or multinational policy framework, with few exceptions, remains
recognition of the central role of the power sector. Decarbonisation of
the power sector remains a necessary although not sufficient condition for
meeting ambitious emissions targets. The power sector therefore remains
absolutely centre stage in any discussion of climate policies.
The second major challenge lies in defining the
roles of the three main classes of policy instrument. These are well
recognised as falling in three groups: various forms of regulation, instruments
based on markets and pricing of GHG emissions (including taxation), and
measures to promote and implement innovation and transformational change.
The challenge is to balance overall policy so that these instruments work in
the same direction and are not in conflict.
Markets and Regulation
In this context the biggest single issue is the
appropriate balance between markets on the one hand, and regulation or planning
and central direction on the other. The dichotomy is to some extent a false
one. There are clear examples, for example in the transport sector, where
simple regulatory measures have worked very effectively without creating
significant market distortions. Equally the importance of working with
rather than against competitive markets ought to be obvious, since this
increases the incentives for innovation and deployment of low carbon
However the prime problem is that market solutions
are only possible within a context of interventionist policies that
successfully reflect the externality of the damage caused by CO2 emissions. Current EU
policies have produced low current carbon prices, with promised adjustments
offering an indication of higher future prices, even though the importance
attaching to the cumulative stock of emissions should attach a very high
priority to early emissions reduction. This provides very limited and
uncertain incentives either for current fuel substitution, in gas for coal, for
example, or for future investment.
EU policy towards energy and climate, and in
particular its emissions trading scheme (the ETS), provide some clear
indications of the problems. The effectiveness of carbon pricing has been
undermined by a combination of excessive lobbying for over generous allowances
and the effect of recession, combined with insufficient flexibility in adjusting
caps to changing circumstances. In addition the effectiveness of the EU ETS in
securing a realistic carbon price is undermined by additional EU and national
policies such as those on renewables which, even if appropriate on their own,
have not been sufficiently taken into account in the design and parameters of
the EU ETS. It can also be argued that the timescales in the EU scheme have
been too short to provide the confidence necessary to underpin major
In consequence opportunities for early, and hence
highly worthwhile, emissions reductions are being missed. This is
particularly evident in failure to engage in gas for coal substitution in power
generation – a perverse outcome that results from the poor calibration of the
EU carbon market, combined with the advent of cheap US coal exports. On a
longer term perspective, carbon prices have not been sufficiently robust to
stimulate the investments needed for transformative change.
There is a real risk that dissatisfaction with this
experience will discredit future proposals for the necessary and sensible use
of market mechanisms. This is unfortunate since their essential role in
promoting efficient and effective solutions, especially in an international and
trading context, ought to be widely accepted.
Markets and Policy Commitments
The strengths and limitations of the marketplace
have also become a central tension in the crucially important area of
electricity policy. Prices alone do not drive through transforming
technologies; frameworks and plans with other policy instruments are necessary
too. This is very evident in the slow progress of carbon capture (CCS)
technologies, as well as in UK efforts to promote low carbon power sector
In this context it is increasingly clear that whole
areas of activity, especially in electricity capital investment, will not now
function at all without government commitment to a clear policy.
Inevitably that is drawing governments in to decision making. The
challenge is to make sure that this is done competently and effectively, and
that may require some institutional change. In the UK, for example, the only
entity bearing any responsibility for key strategic decisions is DECC.
There is a case for assigning more explicit responsibilities to the industry in
respect of reducing carbon intensity. In principle this could be done through
supply obligations or by a separate body, at arms length from government, with
responsibility for contracting future low carbon generation requirements.
Other policy issues
Apart from questions arising over the role of
markets, there are other clear choices to be made over the balance of policies
and the priority to be assigned to low carbon objectives.
One is the attention to be paid to the demand side,
including distributed generation, which arguably has received too little
attention in policy making. Governments will need an integrated strategy
to harness this potential effectively. However it remains the case that
many of the biggest choices remain primarily supply side questions – especially
in power generation. Demand side policies that reflect the increasing
opportunities offered in decentralised and renewable generation and smart grids
are essential, but, under currently foreseeable technologies, will tend to
reinforce the importance of central grids and coordination and system control
Caution is also required on assumptions about the
contribution of energy efficiency measures. Energy efficiency may
be beneficial per se, but the established “rebound” effect, where some
efficiency gains are taken as increased consumption, suggests that,
without accompanying price increases (to reflect the cost of emissions or
low carbon energy), it may be partially offset by increased use of energy
services. It is also important to distinguish energy intensity from
carbon intensity, as higher energy efficiency does not always equate to lower
Numerous policy conflicts are also apparent. In
Germany, the phase out of nuclear will substantially increase CO2 emissions (which arguably pose
by far the greater global risks). There have also already been serious
conflicts between measures for early emissions reduction, and the norms of
national competition policy. In the Netherlands plans by generators to
substitute gas for coal were challenged on competition grounds, and similar
issues are evident in the EU in relation to the single market, competition and
state aids. Comparable questions will arise for the WTO and global trade
Other fundamental conflicts arise through the
impact on costs and prices, with higher prices for poorer households coming
into conflict with attempts to alleviate poverty or reduce inequality.
Although most of the increase in household energy prices in recent years
has been due to the rising price of gas, the impact of emissions reduction
policies on prices remains an important political issue. In fact a wide
range of measures are available to protect low income households from the
effects on energy bills and alleviate impacts on vulnerable groups, so this
should not be a pretext for limiting action to reduce emissions.
Similar apparent conflicts have been introduced by
concern over the impact on national “competitiveness”, particularly in the UK
and EU, and also deserve attention. However rational analysis has to
recognise some basic considerations.
First is the simple comparison of
the costs of goods in international trade on an economy wide basis.
Comparative energy costs are demonstrably of limited importance compared to
real wages or exchange rate movements, and of little competitive significance
for much of industry. Given that exchange rates adjust over time, to reflect
inter alia trade surpluses and deficits, raising energy costs in an individual
geography will lead to exchange rate adjustments that benefit less energy
intensive local industries at the expense of the more energy intensive.
Countries, in this sense, are not “competitive”; companies and industries are.
Second, adopting a different
concept of competitiveness for national or regional economies, to mean those
that appear innovative and capable of high growth, once again energy prices
appear to have little influence. Germany is widely regarded as the most
competitive economy in Europe but has had among the highest energy costs.
Asia Pacific faces some of the highest wholesale gas import prices by a
significant margin, but also has a very high proportion of high growth
Third, the EU may need to accept that the US in
particular has advantages in natural resource endowment that confer comparative
advantage in certain high energy content activities, and are not easily
countered other than through exchange rate adjustment.
There is however a real policy issue, not for
general competitiveness per se, but for trade and the efficacy of climate
policy for particular emissions intensive industries. This will arise if some
countries remain competitive in energy intensive industries by not
following emissions reduction policies – thus increasing global emissions
through “carbon leakage” from those countries that do follow such
policies. If this occurs, the issues are best dealt with on a sectoral
basis, through measures that target the particular issue directly. Search
for enduring solutions may be difficult, but a variety of measures can be
considered. These include the current approach of free allocation of emissions
allowances and financial compensation for electricity intensive industry,
alternative approaches such as border adjustment taxes in a few industries, and
other derogations or compensation packages as transitional arrangements.
A general conclusion is that the seriousness and
urgency of the climate issue should indicate a first priority to an objective
of fundamental importance such as emissions; and many other important
objectives, such as poverty alleviation, need not be impeded by measures to
GLOBAL ACTION AND NEGOTIATION
A further fundamental feature of the climate policy
problem is the dependence of its resolution on collective action. Global
agreements on mechanisms for action, and on burden sharing, are therefore of
first order importance, and their absence is frequently invoked as justification
for inaction in national or EU terms. There are several counters.
First, global recognition of the serious nature of
the problem is growing, not least in the business community. A growing
proportion of emissions are covered by taxes or cap and trade limits of some
kind, or by instruments designed to reduce emissions. This at least partly
answers the argument that unilateral action is of no value. Purely in
terms of national interest, and irrespective of climate outcomes, there are
risks in failures to take action at a national level, and in falling behind on
Second, China is of huge significance and there are
encouraging signs that China is taking action, with ambitious targets for
reducing the carbon intensity of its economy. China’s emissions levels
will, on their own, have a significant climate impact, and the exemplary effect
of successful Chinese policy is potentially of equal significance.
Third, suppositions of EU leadership and of the EU
moving “too fast” on climate policy are no longer justified. There are
serious shortcomings in EU policy which need to be addressed. Improving
EU policy has to be a priority for member states, both because it matters in
global terms and to make their own policies more effective.
The 2015 Paris discussions will be critical in
meeting the urgency increasingly apparent in the science consensus. They
follow a series of disappointing summits, many reflecting serious weaknesses in
the framework of global governance for decision taking on these issues.
These have included the ability of relatively small interest groups to delay or
veto agreements in pursuit of relatively insignificant opportunistic gains.
important element in global agreement is maintaining and developing global
markets in carbon is an important instrument. One objective should be to
continue the search for agreements and policies that provide market linkages,
even if some of these are bilateral (eg EU and others) and not global.
Linkages increase the incentive for effective and efficient low carbon
innovation, and promote more effective and lower cost solutions than would be
possible with a patchwork of national regulations. Inter alia this means
that we should be reluctant to allow the decline of the only global linking
mechanism which currently exists, the Clean Development Mechanism (CDM).
SUMMARY AND CONCLUSIONS
We need a renewed and improved assessment and
statement of the real case for climate action. The conventional (cost
benefit) analysis almost certainly understates the “risk of ruin” implicit in
late realisation of the extent and nature of the dangers posed by (say) a +4o C world, and of the very severe
economic and human costs of late mitigation or adaptation. It may also fail to
create a sufficiently positive vision of the prospects offered by a low carbon
economy. This needs to accompany continued demonstration, to the public,
of the real science and economic case.
There is, at a global level, a dangerous and
growing gap between the actions demonstrably necessary to contain climate risk,
as established within the context of climate science, and “business as usual,
slightly modified” projections within the energy sector. However postponement
of national or EU actions on the grounds of lack of international progress is
both dangerous and misleading. Realisation of the scale and importance of the
issue is growing, not least in Asia.
Early action carries a double benefit in postponing
adverse outcomes, and improving options both for mitigation and adaptation.
Early abatement of CO2 is
especially important given that a large proportion of emissions persist in the
atmosphere for centuries. Inter alia this implies action to accelerate
early substitution of gas for coal in the EU; this is not taking place with
current carbon markets, and has in some instances been inhibited by focus on
policies, such as competition policy, which should be considered of lesser
importance. Primacy of policy on climate is essential, even at the expense of
The power sector remains the central focus of any
effective policy to lower emissions, but the necessary investments require
government commitments to both decarbonisation policy, and to the individual
investments, to make them happen. This inevitably draws governments into
decision making, but currently they often lack the institutional framework to
deal with this effectively.
For the UK two particular conclusions stand
out. First, the UK should continue to urge international action aimed at
reducing the risk of exceeding the so-called 2oC target, and follow domestic
objectives consistent with that aim. This holds despite the probability
that global emissions cannot now be curtailed sufficiently to eliminate
the risk of dangerous climate consequences. Indeed the imperative to reduce the
worst of the risks is all the stronger.
Second, the ability to make progress is everywhere
constrained by insufficient political commitment to the problem, and weak
perceptions of the nature of the risks associated with irreversibility in
global climate systems. Improving the effective communication of these
risks should be a high priority.
The authors of the BIEE paper were: Christopher
Allsopp CBE, Christopher Beauman, Robert Gross, Joan MacNaughton,
CB, Michael Parker, OBE, John Rhys,
Anthony White MBE, and Adam Whitmore.
Allsopp, CBE, is
an Emeritus Fellow of New College Oxford, and Editor of the Oxford Review of
Economic Policy. He is the non-executive President of the Oxford
Institute for Energy Studies, having been its Director from 2006 to 2013. He is
also a former Member of the Monetary Policy Committee and of the Court of
Directors of the Bank of England.
been an Adviser on steel industry modernisation and financing in Eastern Europe
to the European Bank for Reconstruction and Development since 1991. He is a
former Adviser, Central Policy Review Staff, and a former Group Planning
Director, Morgan Grenfell.
Dr Robert Gross is Director of the Imperial College Centre
for Energy Policy and Technology (ICEPT). He
is also a Co-Director of the UK Energy Research Centre and the Policy Director
at Imperial’s Energy Futures Lab. He has been a specialist advisor to the
Energy and Climate Change Select Committee enquiries into energy market reform
(EMR), a member of the DECC academic advisory council on EMR, and a
Specialist Adviser to the House of Lords Committee on the EU inquiry into the
feasibility of the 2020 targets for renewable energy. He is currently Chair of
the British Institute for Energy Economics. He has undertaken research
and consultancy for utilities and oil companies, the UNDP, World Bank and
Joan MacNaughton CB is Executive Chair of the World
Energy Council Trilemma, an annual assessment of 129 countries' energy
policies; Past President (2011-13) and Honorary Fellow of the Energy Institute;
and was formerly Director General of Energy at the Department of Trade and
Industry; Chair of the Governing Board of the International Energy Agency; and
Vice-chair of the UN High Level Committee on the Policy Dialogue on the Clean
Michael Parker, OBE, is a former Director of
Economics at British Coal. He was a Member of the UK Government Energy
Advisory Panel, 1993-2003. He has been a Visiting Fellow at the Sussex
Energy Group, University of Sussex.
Dr John Rhys is a former Chief Economist at The Electricity
Council, the body then responsible for the state owned electricity industry in
England and Wales. He was also over many years responsible for developing and
directing the international energy practice of the leading economics
consultancy NERA, and Managing Director from 1997 to 2004. He is
currently a Senior Research Fellow at the Oxford Institute for Energy Studies.
He also chairs the BIEE programme of seminars on energy policy and related
Dr. Anthony White, MBE, was a founding member of the UK
Government's Energy Advisory Panel, a member of the National Grid's Executive
Committee, Head of the European Utility Research teams at Kleinwort Benson and
Citigroupand a founder of Climate Change
Capital. He is a non Executive Director of Green Energy Options, The
Crown Estate and 2OC Limited. He now provides strategic and financial advice on
the energy markets through BW Energy Limited.
Adam Whitmore is currently Chief Advisor, Energy and Climate
Policy, at Rio Tinto. He has over 20 years’ experience of working in the
energy industries and has taken a particular interest in climate change policy
for much of that time.