Tuesday, March 22, 2016



In substance this paper reflects the paper prepared following the 2013 seminar series on Climate Policy in Crisis, which can be viewed on the BIEE website.


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[1] 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.


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 man-made effects.

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[2], the IPCC[3] and the UK’s Committee on Climate Change (CCC)[4].  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.[5]  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 CO(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.[6]   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.[7]

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.[8] 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 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[9] 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 basis.


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. 


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 example.  

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 technologies.

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 investments.

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 investment.

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 issues.

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 emissions.

Numerous policy conflicts are also apparent. In Germany[10], 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 policy.

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 “competitive” economies.

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 reduce emissions.


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 policy development.

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.

An 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). 


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 other objectives.

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.

Christopher 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.

Christopher Beauman has 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 Greenpeace.
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 Development Mechanism.
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 climate issues.
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 Citigroup and 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. 
above author details correct as at March 2014

[1]Further details and the summary can be viewed at this link: https://www.biee.org/climate-policy-crisis-position-paper/.  The BIEE site also archives summaries of the presentations and much of the discussion which provided material for this paper.
[2] World Energy Outlook Special Report 2013: Redrawing the Energy Climate Map. International Energy Agency (IEA). 2013
[3] Fifth Assessment Report (AR5). Impacts, Adaptation, and Vulnerability.  Intergovernmental Panel on Climate Change (IPCC). 31 March 2014
[4] Fourth Carbon Budget Review – part 1 – Assessment of climate risk and the international response. Committee on Climate Change. 7 November 2013
[5]Cumulative Carbon Emissions And Climate Change: Has The Economics Of Climate Policies Lost Contact With The Physics?’, John Rhys, OIES Working Paper EV 57, July 2011.
[6] Investment under Uncertainty, Dixit, A.K. and Pindyck, R.S.  1994.   Princeton, NJ: Princeton University Press.
[7] CCC. Op cit.
[8] This is apparent both from the projections of intergovernmental bodies such as the IEA, cited above, and from the scenario projections outlined by some of the major oil companies.
[9]. "Climate Change Policy: What Do the Models Tell Us?" Pindyck, Robert S. 2013. Journal of Economic Literature, 51(3): 860-72.
[10] A Comment on Current German Energy Policy- The “Energiewende”.  A UK and Climate Concern Perspective.  John Rhys.  OIES Energy Comment.  April 2013.

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