…it’s a straightforward implication of standard economic analysis that the more uncertainty is the rate of climate change the stronger is the optimal policy response. That’s because, in the economic jargon, the damage function is convex. To explain this, think about the central IPCC projection of a 3.5 degrees increase in global mean temperature, which would imply significant but moderate economic damage (maybe a long-run loss of 5-10 per cent of GDP, depending on how you value ecosystem effects). In the most optimistic case, that might be totally wrong – there might be no warming and no damage. But precisely because this is a central projection it implies an equal probability that the warming will be 7 degrees, which would be utterly catastrophic. So, a calculation that takes account of uncertainty implies greater expected losses from inaction and therefore a stronger case for action. This is partly offset by the fact that we will learn more over time, so an optimal plan may involve an initial period where the reduction in emissions is slower, but there is an investment in capacity to reduce emissions quickly if the news is bad. This is why its important to get an emissions trading scheme in place, with details that can be adjusted later, rather than to argue too much about getting the short term parts of the policy exactly right.
Anyway, back to my main point. The huge scientific uncertainty about the cost of inaction has obscured a surprisingly strong economic consensus about the economic cost of stabilising global CO2 concentrations at the levels currently being debated by national governments, that is, in the range 450-550 ppm. The typical estimate of costs is 2 per cent of global income, plus or minus 2 per cent. There are no credible estimates above 5 per cent, and I don’t think any serious economist believes in a value below zero (that is, a claim that we could eliminate most CO2 emissions using only ‘no regrets’ policies).
For anyone who, like me, is confident that the expected costs of doing nothing about emissions, relative to stabilisation, are well above 5 per cent of global income that makes the basic choice an easy one.
The idea that bad mathematical models used to evaluate investments are at least partially to blame for the financial crisis has plenty of appeal, and perhaps some validity, but it doesn’t justify a lot of the anti-intellectual responses we are seeing. That includes this NY Times headline In Modeling Risk, the Human Factor Was Left Out. What becomes clear from the story is that a model that left human factors out would have worked quite well. The elements of the required model are
- in the long run, house prices move in line with employment, incomes and migration patterns
- if prices move more than 20 per cent out of line with long run value they will in due course fall at least 20 per cent
- when this happens, large classes of financial assets will go into default either directly or because they are derived from assets that can’t pay out if house prices fall
It was not the disregard of human factors but the attempt to second-guess human behavioral responses to a period of rising prices, so as to reproduce the behavior of housing markets in the bubble period, that led many to disaster. A more naive version of the same error is to assume that particular observed behavior (say, not defaulting on home loans) will be sustained even when the conditions that made that behavior sensible no longer apply.
…More generally, in most cases, the headline result from a large and complex model can usually be reproduced with a much simpler model embodying the same key assumptions. If those assumptions are right (wrong) the model results will be the same. The extra detail usually serves to produce more detailed results rather than to produce significant changes in the headline results.
Australian economist John Quiggin writes on The sustainability of improving living standards in a world of climate change. He discusses responses to the Stern Review on the economics of climate change. In particular, its conclusion that stabilizing at the atmosphere at 500 ppm CO2 equivalent in 2050 would result have same size economy as would otherwise have been reached in 2048.
Stern’s optimistic view that CO2 emissions could be greatly reduced without a corresponding reduction in living standards is rejected by critics beginning from two diametrically opposed positions. Although deeply hostile to each other, the two groups find some surprising common ground.
The first group are ‘Deep Green’ pessimists who see the end of consumer capitalism as both inevitable and desirable. At least since the reports of the Club of Rome in the 1970s, members of this group have argued that continued economic growth is inherently unsustainable. …
The mirror image of Deep Green pessimism is that of the ‘Dark Brown’ pessimists who say that we should do nothing to stabilise the climate because to do so will wreck our standards of living. Dark Brown commentators from thinktanks like the Competitive Enterprise Institute warn of ruinous economic consequences even from modest first steps such as the implementation of the Kyoto Protocol. …
Both groups engage in a fair bit of wishful thinking about their position, the Greens arguing that we’ll all be happier in the long run and the Browns claiming that the environmental problems will solve themselves if we ignore them. But these opposing claims are secondary to the shared presumption that economic growth depends on increasing exploitation of the natural environment and, in particular, on the burning of fossil fuels.
Underlying both Deep Green and Dark Brown positions is a fundamental misunderstanding of the nature of economic progress and of economic activity in a modern society. The concept of economic growth is so firmly embedded in our thinking that we forget it is just a metaphor. The idea of growth implies physical expansion, and any process of physical expansion has limits. …
The public-good nature of information explains how economic progress can continue without additional resources. Most obviously, improvements in information technology allow more and faster communication which in turn allows for yet more technological improvements. There is no apparent indication of diminishing marginal returns in this field; if anything the opposite. …
Despite the claims of Dark Browns and Deep Greens, we can, if we choose, have both a stable climate and steadily improving standards of living throughout the world. But the fact that we can achieve these things does not mean we will. At this stage, failure seems all too possible, as does a half-hearted response that will imply the need for much more costly action in the future.
While I am relatively optimistic about the ability of human society to successfully adapt and mitigate climate change I am worried that:
- Economic growth is not being decoupled from its use of global ecosystems, and
- Estimates of the costs of climate change fails to consider that we are substantially reducing the ability of the biosphere to adapt to climate change, which will have unknown but likely substantial negative impacts on human wellbeing.
At Crooked Timber, Australian economist John Quiggin reflects on the recent Coral Reef Futures Forum, which was recently organized by Resilience Alliance member Terry Hughes group at the ARC Centre of Excellence for Coral Reefs Studies in Australia. The forum aimed to discus how global changes such as fishing, climate change, and ocean acidification are threatening coral reefs. John Quiggin writes:
I spent the last couple of days in Canberra at the Coral Reef Futures Forum, as part of my new Federation Fellowship is to look at economic approaches to management of the Great Barrier Reef. As one of the speakers said, a lot of the talks had people staring at their shoes in gloom, though the tone got a little more positive towards the end. …
The most hopeful view is that, if we can fix the local threats like overfishing and poor water quality, the resulting increase in resilience (part of my project is to develop a more rigorous understanding of this popular buzzword) will offset moderate global warming, so that if we can stabilise the climate (an increase of no more than 2 degrees) we might save at least some reef systems.
It will be interesting to see what type of resilience economics John Quiggin develops. Several other economists have been working on the economics of resilience, such as Wisconsin econmist Buz Brock, Charles Perrings at Arizona State U, as well as Anne Sophie Crepin and others at the Beijer Institute, but the there is a lot that needs to be done to create a broadly useful resilience economics.