Climate Policy
Michael
Springborn
Department of
Environmental
Science & Policy
[image: USGCRP, 2010]
Climate policy questions and lenses
• How aggressively and in what way should society take
action to reduce damages from climate change?
– balance between expected
impacts/costs and policy
response options and their costs
• Mitigation versus adaptation
• Economics/policy science/
ethics/climate science
– game theory, theories on the use
of science in policy and analysis
of public attitudes.
• International/national/state
The problem in a nutshell
[Trenberth 2009]
Higher GHG concentrations map to uncertain but
substantial changes in temperature
[Pizer 2007]
The paleoclimatic record suggests anticipated
GHG concentrations are quite unusual
[Dieter et al. 2008]
The paleoclimatic record suggests anticipated
GHG concentrations are quite unusual
[NAS, 2014]
Predicted outcomes are uncertain:
the recent mismatch between increasing GHG
concentrations and flat temperature is a puzzle
“The world added roughly 100
billion tonnes of carbon to the
atmosphere between 2000
and 2010. That is about a
quarter of all the CO₂ put
there by humanity since
1750.”
James Hansen (NASA):
“the five-year mean global
temperature has been flat for
a decade”
[The Economist, 2013]
Projected US temperature changes are substantial even for
optimistic emissions scenarios
From…
U.S. Global Change
Research Program:
Temperature is relative to
the 1901-1960 average.
(USGCRP 2013, p. 20)
•
•
National Climate
Assessment and
Development
Advisory Committee
Draft Climate
Assessment Report
(2013).
A2 scenario: high population growth, low economic growth, slower technology improvements and
diffusion, and other factors that contribute to high emissions and lower adaptive capacity
B1 scenario: lower population growth, higher economic development, a shift to low-emitting efficient
energy technologies that are diffused rapidly around the world through free trade, and other
conditions that reduce the rate and magnitude of changes in climate averages and extremes as well
as increased capacity for adaptation.
Undesirable impacts are expected as temperature
increases across a range of settings
[IPPC 2007]
The intensity of CO2/GDP is falling…but not fast
enough to offset increases in GDP and population
[Nordhaus, 2012]
Anthropogenic climate change represents
the “biggest market failure the world has
ever seen” -- Nicholas Stern.
Market failure specifies the root
of the problem
“greatest good for
the greatest number”
results when the actions of an agent
(individual or firm) have an uncompensated
effect on the wellbeing of other agents.
EPA (2010)
Climate change externalities
• (External) cost (damage) from a unit of
emissions associated with a given unit of
economic activity is not paid for by those
producing or consuming the good.
– Emissions inefficiently high
• Innovators of new technologies (of any
kind which addresses the GHG problem)
may not receive all of the benefits from
their inventions
– Innovation is ineffeciently low
Each externality associated with climate change
motivates consideration of particular policy
instruments.
Stern, 2013
What is the social cost of carbon (SCC)
and why are we calculating it?
U.S. Interagency Working
Group on the SCC:
The SCC is “an estimate of
the monetized damages
associated with an
incremental increase of
carbon emissions in a given
year”
[US IWGSCC, 2010]
Integrated assessment models are used to construct and
analyze forecasts of the coupled economic-climatic system
over centuries
[Nordhaus, 2012]
Various IAMs project different levels of
loss from temperature increases
(IWGSCC 2010)
The SCC increases over time
and depends on the discount rate
[EPA 2013]
Economists have generally arrived
at a consensus on the bottom-line:
• “Virtually every activity directly or indirectly involves
combustion of fossil fuels, producing emissions of carbon
dioxide into the atmosphere.
• Single bottom line for policy: “correct this market failure by
ensuring that:
– all people, everywhere, and for the indefinite future
are confronted with a market price for the use of
carbon that reflects the social costs of their activities.”
Nordhaus et al. (2008)
Setting stringency:
The policy ramp vs. the big bang
• Climate “policy ramp”
– Efficient GHG control policy: “modest rates of
emissions reductions in the near term, followed by
sharp reductions in the medium and long term.”
(Nordhaus, 2007)
• If implemented via a tax: ~$30/ton of CO2 initially, rising
gradually to $200/ton towards 2100 (Krugman, 2010)
• The “big bang”**
(**Paul Krugman’s term)
– Immediate and aggressive GHG control
– Stern Review (2006): high profile challenge to the
ramp
Regardless of whether the policy involves a tax or cap
and trade, policy stringency can be expressed in terms
of a carbon price
Stringency of the policy ramp vs. big bang
Stern: big-bang
Nordhaus: policy ramp
Nordhaus (2007)
The Ramp
• The climate-policy ramp (gradualist approach)
– Based on output of “integrated assessment
models” (IAM)
• DICE: Dynamic Integrated Model of Climate and
the Economy (Nordhaus and colleagues)
• Mathematical model of economic growth
accounting for the effects of global warming.
– Dynamic economics: choices over consumption, working
(labor), production, investment
– Geophysical dynamics: emissionsgreenhouse gas
stock climate change
• Estimated reduction in gross world product:
– 4.5o F  2%.
-- 9.0o F  5%
(Krugman, 2010)
Economic logic of the ramp
• Given that “capital is productive and damages are far in
the future … the highest-return investments today are
primarily in tangible, technological, and human capital.”
(Nordhaus, 2007)
– Capital
• Human capital: stock of skills and abilities of the
labor force
• Technological capital: the tangible means of
production (machines, tools, facilities, equipment,
infrastructure, etc)
– Decision:
• At each moment in time we can choose whether to
“invest” any given dollar in
– capital (human, technological, etc) or in
– costly actions to reduce GHG emissions.
The Big Bang & the Stern Review (SR)
•
2006: UK government releases a report: The Economics of Climate
Change: The Stern Review, lead by Sir Nicholas Stern (Nobel Laureate)
•
SR estimates of costs of global warming are substantially higher than earlier
estimates
– Used similar data and methodology (IAM)
– Review summary:
• Unabated, climate change could result in an annual 5-20% decline
in global output by 2100.
– Comparison: US great depression – 1929-1930 real GDP fell by 9%
• Costs to mitigate are around 1% of GDP
• Policies for strong GHG reductions should be implemented
immediately.
•
Why did the SR come to such a starkly different conclusion than the ramp?
– Discounting (lower discount rate)
– Damages (higher damages)
Discounting – Ramsey equation
• Ramsey optimal growth model:
– central framework for thinking about dynamic investment decisions
– organizing principle for setting long-run discount rates
• The Ramsey equation holds in the welfare optimum
Utility(c)
low ƞ
high ƞ
• r = ρ + ƞ* g
 %chg U
 %chg c


 x %chg c 

ƞ: specifies how
quickly marginal
utility falls as
consumption rises.
ct ct+1
growth, g
c:
consumption
Specifying a social discount rate for long-run climate
policy analysis often employs the Ramsey framework
Ramsey (1928) optimal growth model:
Economy operates as if a “representative agent” selects consumption
and savings to max PV of the stream of utility from consumption over
time.
One implication of the Ramsey model is the following equation:
• r = ρ + ƞg
• r: return to capital (real, long-run)
• ρ: pure rate of time preference
“time discount rate”, due to “impatience”
• ƞ: elasticity of marginal utility w.r.t. consumption
• g: average growth in consumption per capita
Two different perspectives on parameterizing the Ramsey
discounting equation lead to very different results.
ρ: pure rate of time preference;
ƞ: elasticity of marginal utility w.r.t. consumption;
g: average growth in consumption per capita
1. Descriptive approach/Nordhaus & the DICE model
• Use economic data to estimate parameters:
• Nordhaus (2008):
• r = ρ + ƞg = 0.04 (average over the next century (Nordhaus, 2008, 10))
–
5.5% over first 50 years (61).
• Economic growth and population growth will slow, rate will fall over time.
2. Prescriptive approach/Stern & the Stern Review (2006)
• Argument: No ethical reason to discount future generations due to a
pure rate of time preference except for the possibility that we might not
be here at all (ρ reflects only ann. prob. of extinction). 1.3% growth
assumed.
• r = ρ + ƞg = 0.001 + 1*0.013 = 0.014
Nordhaus on Stern’s discounting approach
Nordhaus
(2008, p. 174)
Comparison of the discount rate
Discount weight under various assumptions
1
Stern, r = 1.4%
Nordhaus, r=4.5%
0.9
Discount weight
0.8
0.7
0.6
The level at any given time t
represents the weight given to
consumption arriving at year t.
0.5
0.4
0.3
0.2
0.1
0
0
20
40
60
80
100
t
120
140
160
180
200
Damages
SR used a
level of GHG
damage at
the high end
of the
expected
range.
Nordhaus
(2008, p. 51)
• The ratio of aggregate damages to the size of
the economy ($D/$GDP) 100 years from now
• commonly assumed: 1-4%. (Weitzman, 2007)
• SR: >= 5%
Some conclusions
• Weitzman (2007): `On the political side … my
most-charitable interpretation of (the Stern
Review’s) urgent tone is that the report is …
– an essay in persuasion…
– that is more about gut instincts regarding the horrors
of uncertain rare disasters whose probabilities we do
not know…
– than it is about (conventional) economic analysis.
• SR might be right (“act now”) for the wrong
reasons (due to bad model parameters instead
of a careful analysis of uncertainty).’
The role of uncertainty in climate
change policy—Weitzman (2009)
• What happens to expected utility-based
BCA for fat-tailed disasters?
– Can “turn thin-tail-based climate-change
policy on it’s head” (p. 2).
• Concretely: a fat-tailed distribution over a
climate sensitivity parameter (S) which
maps CO2 changes into temperature
changes.
• Can drive applications of EU theory more
than discounting (p. 5).
How do we chose from the large
set of policy options?
Economists often favor marketbased instruments (MBI)
• Advantages of MBI’s over C&C (Stavins, 1998):
– Cost effectiveness (least cost)
• Flexibility (within and between polluters)
• Encourage behavior change through market
signals rather than with explicit behavioral
requirements.
• Key attribute: MBI’s take advantage of private
information that polluters have
– RE: means and procedures they could use to reduce pollution
– Stronger incentives for technological
innovation
Cost effectiveness comparison over
alternative instruments -- Clean Air Act
Carbon tax versus cap and trade: can accomplish
essentially the same thing but with minor differences
Cap and Trade
Carbon Tax
Known:
Pollution level
Price per unit of pollution
Unknown:
Price per unit of pollution
Pollution level
Permit auction: government
Revenue:
Government
Free allocation: industry
Key design components for a cap and trade policy include:
(1) cap, (2) scope, (3) allocation, (4) cost containment, & (5) offsets
cap
scope
[Newell, 2012]
Observed carbon prices over the last
several years have been below $20/ton CO2
[Newell, 2012]
Carbon offsets
• Carbon offsets: a tradable credit for reducing
carbon emissions by some amount (e.g. ton)
generated outside a regulated system,
recognized within a regulated system (e.g. a
cap-and-trade regime) as a substitute for holding
and using an emissions permit.
Attributes for carbon offset
effectiveness
Offset issues: is the offset…
• Real: has the unit of emissions actually been avoided and not just
claimed?
• Additional: was the unit avoided due to the offset policy or would it
have been avoided regardless of the offset mechanism? (Was this
criteria satisfied in the “Cheat Neutral” ‘example’?)
• Permanent: is the unit avoided permanently or only temporarily (e.g.
will a planted tree just be burned in 10 years)?
• Verifiable: can we ensure that each attribute above is actually
attained so that stakeholders in the over-arching climate policy can
ensure that the policy is not being undermined?
Offsets present substantial measurement
challenges
grey
additional (action
taken for payment)
verifiable?
permanent
[Beede and Powers, 2013]
Problems with additionality have been
substantial.
http://tocsin.ordecsys.com/ (2009)
[Fig.: Newell et al. 2012; Data: Fenhann (2012)]
Measurement uncertainty doesn’t
have to preclude mitigation projects
f(y):
probability
density
confidence
yc:
credited level confidence
E(y):
expected level
y:
true level of mitigation
deduction
Verifiability of offsets:
• Certainty? No.
• Meeting or exceeding stated/credited levels with a specified level of confidence.
Managing carbon stocks as a
global open access resource:
game theory and the prospects
for international cooperation
Mitigation goals will be difficult/impossible
to achieve for rich countries acting alone
[Nordhaus, 2010]
Game theory can provide traction on the
“Tragedy” as a strategic action problem
“Adam Smith was wrong.”
Game theory &
international environmental agreements (IEAs)
Game theory: the study of multi-agent decision problems where the payoffs to
actions depend on the actions of others.
A simplified story of the transboundary/international pollution problem:
•
•
•
•
•
•
•
Two countries, A & B, contribute to emissions of a transboundary pollutant.
– Currently, neither A nor B is addressing the pollution issue but both are
considering doing so
Discrete strategies: each country will choose either to contribute or shirk (not
contribute)
Non-cooperative game theory: A & B will not negotiate but rather simply choose
(irreversibly) a strategy.
Each behaves individually rationally
Information is complete: payoffs are fixed and common knowledge
Static, one-shot game: the actions of A & B are selected once, simultaneously, and
are permanent.
Any “agreement” to take action must be self-enforcing—there is no higher authority
to impose constraints.
Finus, M. (2001)
The cost/benefit structure
Assumptions:
• Costs:
• effective action: 4 total
• If one country takes effective action (“contributes”) its
costs are 4.
• If both “contribute” then each faces a cost of 2.
• no action: zero cost
• Benefits
• effective action: 3 each
• Both countries receive benefits of 3 regardless of
whether the effective action is due to the efforts of one or
both countries
• no effective action by either: 0 each
**This example based on Keohane and Olmstead (2007, p. 79)
Assumptions:
• Costs:
• effective action: 4 total
• If one country takes
effective action
(“contributes”) its costs
are 4.
• If both “contribute” then
each faces a cost of 2.
• no action: zero cost
for each possible outcome, the
net benefits to each country are
give by: (NBA, NBB)
Country B
Contribute
Shirk
Country A
• Benefits
• effective action: 3 each
• Both countries receive
benefits of 3 regardless
of whether the effective
action is due to the
efforts of one or both
countries
• no effective action by either:
0 each
The payoff matrix:
Contr.
(1,1)
(-1,3)
Shirk
(3,-1)
(0,0)
Note: payoffs to A depend on
the choice of B and vice versa.
Prisoner’s Dilemna in Action
Golden Balls - £100,000 Split Or Steal? 3/14/08
Prediction of the equilibrium
• Any “agreement” to take action must be self-enforcing
• Each player’s predicted strategy must be that player’s
best response to the anticipated strategy of the other
player.
C: contribute
S: shirk
• The strategy of player i, given by si, is chosen from the
set {C,S}
• The strategies {s*A, s*B} are a “Nash equilibrium” (NE) if,
for each player, s*i is player i‘s best response to the
strategy specified for the other player.
(There is no incentive to deviate.)
Gibbons (1992)
Nash equilibrium
Solution process: check whether each possible outcome satisfies the
NE condition:
1. For each player and for each strategy, determine the other player’s best
response (and underline that payoff)
2. The pair of strategies {s*A, s*B} is a
NE if each players’ strategy is a best
response to the other’s (i.e. if both
payoffs are underlined).
Country B
Contribute
Shirk
Country A
Shirk
Contr.
• Consider B’s best response:
If A contr.  should B shirk or contr.?
If A shirks  should B shirk or contr.?
• Consider A’s best response:
If B contr.  should A shirk or contr.?
If B shirks  should A shirk or contr.?
(1,1)
(-1,3)
(3,-1)
(0,0)
Is the predicted outcome Pareto inferior (i.e. can one agent be made better off
without making any other agent worse off)?
Model extensions:
• To capture the wide variety of IEAs
requires model extensions:
– N>2 countries
– Coordination
– Dynamic/repeated games (finite, infinite)
– Continuous strategy space
– Negotiation models
– Coalition models
See Finus (2001)
U.S. politics and climate change
policy
The last real opportunity for comprehensive
U.S. climate policy was the Waxman-Markey
climate bill of 2009-2010.
[Newell, 2012]
Media slides with black background courtesy of Derek Lemoine, Arizona University
Graham’s policy aide to Lieberman’s aide: