A GRAPHIC ILLUSTRATION OF CLIMATE CHANGE

Antti Lipponen of the Finnish Meteorological Institute has created an animated chart that shows the trend in global and national temperatures from 1900 to 2017, ie almost to the present day. The distinctive feature is that it shows how an overall trend, significant in itself, can mask even more dramatic swings in individual geographies and in variations between them. Some though not all of these are likely to be experienced as episodes of unusual or extreme weather, eg drought or flood.

It is expressed in terms of temperature anomalies, or deviations from the norm. In this case this just means deviation from the average over the period 1951-1980.
To interpret what is happening in more detail, the following is a useful key
Year. In the centre of the circle is the year of the observations, starting in 1900.
Global temperature trend: top right of the picture.
Temperature anomalies.   Moving out from the centre are five concentric rings, corresponding to the size of the anomaly: from – 2.0^oC through –1.0^oC, 0.0^oC, +1.0^oC, to +2.0^oC. Individual country values are expresses as spokes emanating from the centre, with colours expressing the scale of the deviations, (negative = blue, positive = red)
Geography. The individual countries should be visible in full screen mode, but for a quick impression of what is happening in global differences, note that the quadrants can be summarised as follows. Moving clockwise from 12.00, we find:

Top right; Asia and the Middle East
Bottom right: Africa
Bottom left: Europe
Top left: The Americas and Oceania

The animation has the virtue of demonstrating in visual form the potential significance of global warming in provoking increasing numbers of extremes, which may nevertheless vary substantially from year to year, country to country, and continent to continent.

SERIOUS US RECOGNITION OF CLIMATE CHANGE RESPONSIBILITIES. BUT IDEOLOGICAL DIFFERENCES NEED TO BE PUT ASIDE.

A more urgent approach to climate issues is stirring again among US politicians and opinion formers. A recent FT article highlights apparent conflicts of approach, and the need to reconcile them. In part any conflict might be seen as just another illustration of the deep ideological divide between believers in the ability of unfettered markets to resolve all problems, and proponents of a much greater role for state intervention. The reality is that effective policy on mitigation of climate change will always demand a combination of coordinated actions at government level with the powerful incentives that economic instruments can provide. There is no single silver bullet. Markets won't work on their own, and we also need both effective action on infrastructure and focused regulation.

Martin Wolf is always worth reading on economics and this remains true when he turns his attention to climate issues (The US debate on climate change is heating up. FT, 19 February 2019). This recent article suggests that informed opinion in the US, perhaps for the first time since the early days of the Obama administration, is moving towards increasing recognition of the fact that the US, widely seen as a laggard on climate related policies, cannot stand back from its global responsibilities in relation to curbing emissions. The US, as a country, still has the greatest historic responsibility for CO₂ (the most significant of the greenhouse gases), even though it has now been overtaken by China on current emissions. It is also still close to the highest for current per capita emissions, where it is matched  only by a few countries such as Australia (coal once again at the heart of the problem) and surpassed in the oil states of the Middle East by countries such as a Saudi Arabia with a notorious history of wasteful subsidies to energy consumption.

Data source: CDIAC (1751-2013) and BP (2014-2015)

Wolf highlights two recent announcements. The first is an “economists’ statement on carbon dividends”, endorsed by 3,333 US economists, including four former chairs of the Federal Reserve and 27 Nobel laureates. Its main elements are

·         a carbon tax starting at $40 a ton

·         combined with a “carbon dividend” approach to return the proceeds to US citizens

·         border tax adjustments for the carbon content of imports and exports

·         prices to act as a substitute for unnecessary regulations.

This plan is also to be proposed to "other leading greenhouse gas emitting countries".

Source: Union of Concerned Scientists

The ideas per se are not new. Most economists view emissions pricing as a necessary if not sufficient part of any solution. Others have discussed carbon wealth fund, and tax and dividend approaches. (The “Carbon wealth fund” tag links to three earlier articles.) Helm and Hepburn[1] were early proponents of border tax adjustments.  But bringing them together as a coherent package, and recognising the seriousness of the issue (where economists have often been slow), is very welcome.

The second announcement is the Green New Deal proposed by a group of House Democrats, led by Alexandria Ocasio-Cortez. It is a proposal to transform the US economy by moving to zero carbon sources for power generation and upgrading all buildings to achieve maximum energy efficiency. The approach is strong on regulatory intervention and infrastructure investment, but ignores the incentive effects of prices and markets. Activists vigorously oppose market-based mechanisms, emissions trading and offsets. With even more Utopian fervour they also dismiss major technology options such as carbon capture and storage, nuclear power, waste-to-energy and biomass energy, when the selection of at least some of these options is at least helpful, and very likely necessary for a low or zero carbon future.

Opposition to so many alternative technologies, and a refusal to countenance economic measures, sadly reduces the credibility of the Green New Deal. But we should be almost equally critical of any assumption that a pure market approach is capable of solving all our problems. (Indeed I suspect this is an assumption that may well not be shared by most of the 3,333 signatories). The criticisms are both theoretical and practical.
1.    The starting point of $40 per tonne is too low on its own to incentivise much or most of the investments and behavioural. Moreover, signalling a profile of carbon prices rising over time runs in the opposite direction to the environmental value of emissions reduction, which ought to prioritise current emissions[2].
2.    Inter alia a rising profile leads to the well-known Green Paradox[3], where fossil producers have an incentive to advance their production of the most polluting fuels.

3.    Border tax adjustments make a great deal of theoretical sense, but pose huge practical and administrative issues in measuring carbon content. Given the existing complexities of international trade, rules of origin, etc, and in the current global trade environment, they could quickly fall into a tangled web of complex negotiations and disputes.

4.    The major investors willing to fund big infrastructure projects at a low or modest cost of capital, eg pension funds and sovereign wealth funds, demand secure revenue streams that markets on their own will not provide. This necessarily implies either government guarantee in some form, or some equivalent in terms of monopoly status and mandated moves towards low carbon. (This argument is explored in more depth on another page on this site).

5.    Effective strategy is highly dependent on innovation, and the market failures related to innovation are well documented. Again this implies significant interventions as well as price signals that incentivise investment.

6.    There are numerous instances where regulation on its own can achieve significant gains. One of the most dramatic illustrations of this is the effect of the change in US road vehicle regulation, in the late 1980s, relaxing the Corporate Average Fuel Efficiency (CAFE) standards for vehicle fuel efficiency. Technical progress in engine efficiency, implying a falling consumption per tonne, but without the CAFE targets the efficiency gain simply translated into heavier (ie more wasteful in energy terms) vehicles, and vehicle fuel efficiency improvement came to an end.

Trends in engine efficiency contrasted with trends in vehicle fuel economy, responding to relaxation of US Corporate Average Fuel Economy (CAFE) standards in late 1980s. Source; Lutsey and Sperling.

It is clear that the two competing different strands for realistic climate policy need to come together. At least there is a common objective. To quote Wolf: “Time is limited, talk plentiful and action negligible. But we can only start from agreement that there is indeed a threat worth addressing.” That at least now looks possible in the US. Let us hope it can be translated into more effective policies, and not just in the US.

The reality is that effective progress depends on a fusion of the two camps. The propositions are not mutually exclusive but mutually reinforcing. Many of the “other leading greenhouse gas emitting countries”, to whom the proposals are to be put, have long recognised (as has the World Bank) that a trio of policy instruments is required. 

·         Markets and taxes are the instruments with which economists are most at home, framed to reflect the massive externalities of future environmental damage that are not captured without an intervention of the kind proposed by the US economists.

·         Innovation and  infrastructure, which for the most part are only partly and insufficiently incentivised by market signals, and usually depend heavily on additional intervention with some form of government support and (typically) financial or regulatory guarantees.

·         Regulations and standards which only governments can enforce, to support  policy objectives and promote behavioural change where that is part of the solution.  

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[1] Helm D, Hepburn C, Ruta G (2012) Trade, climate change, and the political game theory of border carbon adjustments. Oxford Review of Economic Policy, 28: 368-394.

[2] This is discussed at much greater length in the author’s earlier paper. 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.

[3] The “Green Paradox” is usually attributed to a controversial book by German economist, Hans-Werner Sinn, describing the observation that policies that becomes greener with the passage of time acts like an expressed intention to expropriate fossil resources for the owners, inducing them to accelerate extraction and hence to accentuate the problems.

CAN COST BENEFIT ANALYSIS GRASP THE CLIMATE CHANGE NETTLE?

And can we justify ambitious targets?

It is easy, for anyone concerned about the future of the planet and our place on it, to assume that formal economic analysis of the case for mitigating climate change is almost redundant or has only limited value in determining the course of action we should take. However, Simon Dietz’s strongly recommended presentation at the Oxford Martin School last week[1] was a timely reminder both that we cannot in practice escape responsibility for some balancing of costs and benefits, and that, in spite of the limitations, trying to answer that question can still yield valuable recommendations and insights.

Weaknesses in the economic calculus

The weaknesses of conventional applied economics, especially cost benefit analysis, in quantifying issues on the scale of climate change are widely recognised.

Some of the weaknesses are of a technical, conceptual or even philosophical nature. In dealing with risk and uncertainty, there is little or no empirical basis for assessing probability distributions. Non-linearities and non-market effects present technical challenges. The policy choices are a long way away from the world of marginal analysis in which cost benefit analysis (CBA) is typically more comfortable. Distributional and inter-generational inequalities bring in philosophical and ethical questions, and economics still lacks a philosophically sound and universally accepted basis for time discounting.

An even bigger issue perhaps has been the inability of conventional macro-economics to capture the complexities, or indeed the potential scale, of major disruptions caused by climate (or, arguably, other non-marginal or disruptive changes such as Brexit).  So-called integrated assessment models (IAMs) purport to capture complex feedbacks between climate impacts and economic output, but the judgment from academics on IAMs has been damning[2].  Such models come “close to assuming directly that the impacts and costs will be modest, and close to excluding the possibility of catastrophic outcomes”, according to Nicholas Stern^[3].  In other words, they largely assume away the problem they are supposed to be analysing. It is for these reasons that CBA arguments have become the new line of defence for climate sceptics whose refusal to accept the science has clearly become untenable.

In plain language, Robin Harding in the FT^[4] claimed that

… one standard model only gives damage greater than 50 per cent of output with 20^oC of warming. Combine that with the assumption that the economy will be many times bigger in the future and the problem is clear. Your grandchildren might be cooking in their own fat on the London Underground, but rather than regarding them as dead, these economic models would regard them as wealthier than you. …

… After the financial crisis, the world did not construct vastly complicated models to estimate the chances of another meltdown and the damage it would cause. Policy makers simply recognised that regulations such as the US Dodd-Frank Act are a small price to pay for preventing a repeat performance. It is time to take a similar risk-based approach to the greater problem of climate change.

But we still need to choose between 2 ^oC and 1.5 ^oC targets

Simon Dietz’s presentation focused very clearly on a current issue – the case for, and practicality of, adoption of the aspirational 1.5^oC target that arose from the COP 21 Paris Agreement. He pointed out, correctly, that the lower target would remove a very substantial part of the “remaining carbon budget”, and that this required unprecedented rates of reduction in carbon emissions, leading us inter alia to early “zero carbon” and the necessity of carbon capture. Other calculations implied a high implicit carbon price of $100 per tonne of CO₂, or more.

Defending cost benefit analysis, at least partly on the basis that alternatives faced, and similarly failed to resolve, most of the same difficult issues as CBA, he attempted to answer the 1.5^oC question. His analysis, which neatly side-stepped some of the methodological issues, ultimately boiled down to the biggest uncertainty of all – estimating the cost of the damage from climate change.

Successfully avoiding the CBA/ modelling trap described above, of assuming away the problem, he argued that the (wide) range of damage estimates made from an empirical rather than an IAM approach could at the very least make a strong case for the lower target, even if this was not conclusive in CBA terms.  Subsequent discussion focused on what was or was not included in the various estimates of the costs of climate change, notably in relation to resource conflicts and migration.

The conclusions may have seemed uncontroversial or even too mild to many in the audience, especially those of us with professional exposure to climate issues, but Simon noted that at least one distinguished economist had estimated 3.5^oC of warming, often taken to be catastrophic, as an “optimum” amount. Simon also emphasised the importance of the “options” argument[5] for adopting a lower target. More action now increases the room for manoeuvre as time passes, especially if more knowledge increases the estimated risk of “tipping points” or serious downside and catastrophic outcomes.

Reinforcing the case for early action and tighter targets

Related arguments have previously been advanced by the actuarial profession, who of course have long specialised in the analysis of catastrophic risk. In 2014 Oliver Bettis addressed an event at the Grantham Institute and argued [6]for a “risk of ruin”  approach similar to that used in the insurance industry. The conclusion of his analysis, and using “actuarial” risk parameters, was that:

  

·         the CO2 already released (400ppm) produces unacceptable risk of ruin

·         emergency decarbonisation may be the correct risk management response.

·         allowing for slow feedbacks, the right target might be below 350ppm

·         removal of CO2 from the atmosphere should be investigated.

In qualitative terms this could be seen as a similar set of conclusions to Simon’s, but with even more aggressive support for lower targets. Actuaries are possibly more risk averse than economists.

And assessing the practicality and cost

Perhaps the most important barriers to a lower target are simply those of practicality and cost. A badly managed and extremely disruptive re-engineering of the entire energy sector, and indeed the entire economy, could after all bring with it its own “risks of ruin”. It is often asserted that the costs of action are simply unaffordable.

However, at least in very broad macro-economic terms, the admittedly high costs of decarbonisation appear as eminently manageable when compared to other major disruptive impacts on the world economy. At a national level for example, if we take Simon’s very approximate estimate of $100 per tonne, and apply it to UK emissions of about 500 million tonnes of CO₂, we get a cost of c. 1.4% of GDP; this is consistent with the 1-2 % range common in post Stern discussions of the cost of action necessary to curtail emissions to a “safe” level. As often pointed out, this might mean reaching a particular standard of living less than12 months later by 2050.

While in most contexts 1-2 % of GDP is a substantial quantity, it is comparable to other energy and other commodity price shocks that the world economy has absorbed, mostly without ruinous dislocations. Notably these include the multiple oil price shocks of the last 45 years.  Compared to the impact of the 2008 financial crash and its consequences, estimated to have cut GDP by as much as 15%, or to current expectations of the possible near term cost to the UK of Brexit, the cost of climate action can be seen as modest and eminently affordable.

Intellectually therefore the case for ambitious climate action is strong. Less well developed are, first, the levels of political support and, second, agreement on, and acceptance of,  the actual means to get there. But that, as they say, is a series of stories for another day.

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[1] This can be viewed online and, together with the immediately previous presentation by Joeri Rogelj provides an excellent introduction to understanding the current state of play on carbon budgets and policy dilemmas.

[2] Pindyck, Robert S. 2013. "Climate Change Policy: What Do the Models Tell Us?" Journal of Economic Literature, 51(3): 860-72. Pindyck is particularly scathing.

A plethora of integrated assessment models (IAMs) have been constructed and used to estimate the social cost of carbon (SCC) and evaluate alternative abatement policies. These models have crucial flaws that make them close to useless as tools for policy analysis: certain inputs (e.g., the discount rate) are arbitrary, but have huge effects on the SCC estimates the models produce; the models' descriptions of the impact of climate change are completely ad hoc, with no theoretical or empirical foundation; and the models can tell us nothing about the most important driver of the SCC, the possibility of a catastrophic climate outcome. IAM-based analyses of climate policy create a perception of knowledge and precision, but that perception is illusory and misleading.

[3] The Structure of Economic Modeling of the Potential Impacts of Climate change: Grafting Gross Underestimation of Risk onto Already Narrow Science Models / Nicholas Stern. Journal of Economic Literature, Vol. 51, N° 3, pp. 838-859, September 2013

[4] Robin Harding. 2014.  “A high price for ignoring the risks of catastrophe.”  Financial Times. 18 February 2014.

[5] The maintaining of options is also an important part of the case for attaching a higher value to saving current emissions, rather than assuming a rising real price of carbon, addressed by the author, inter alia in Cumulative Carbon Emissions and Climate Change. Has the Economics of Climate Policies Lost Contact with the Physics?  Oxford Institute for Energy Studies Working Paper.

[6] Risk Management and Climate Change: Risk of Ruin. Oliver Bettis. Event at Grantham Research Institute on Climate Change and the Environment London, 14 January 2014.