The Economics of Climate Change

Daniel De La Torre UgarteProfessor, University of TennesseeTrade, Environment, Climate Change and Sustainable Development Branch, UNCTAD

Environemental Problems According to Area of Influence

Domestic: Local/Regional

Bi-national / Multinational

Global

Sources of emissions

Externalities

Left on its own, the market will not solve the problem in a social optimal way

Climate change is an externality: the emitter does not bear the direct costs of their action.

As with any externality without policy interventions, the emitter has little motivation to consider the costs in their decision-making.

Climate Change is a Unique Externality”

The emission of greenhouse gasses imposes costs on others that are not borne by the emitter.

The costs will be felt over a long time period and over the entire world.

But, the exact nature of costs is uncertain: they will be shaped by policies, market mechanisms, & other events.

Those most affected—future generations– cannot speak up for their interests

Basic Policy Approaches For Reducing GHGs

Tax the emitter equivalent to the marginal external social costs

Ultimately borne by households, raises revenues that can be used to achieve other goals, provides incentives to economize on the damaging activity

The allocation of property rights linked with emissions trading

Provides large emitters the flexibility to trade emission rights across sectors.

Direct regulation

Tends to place burden on industry (which generally passes on the costs to consumers—if they can/will pay)

Provide financial incentives

Usually popular, sends clear signals, but often suffers from free rider problem.

Stern Review on the Economics of Climate Change

Author: Economist Sir Nicholas Stern Purpose: Created for the British government

to address climate change using economic analysis

Length: 700 pages! Published: October, 2006

The Science

Doubling of pre-industrial greenhouse gases (~ 1900) = 2°-5° C change in mean global temperatures

This doubling will most likely occur between 2030 and 2060, at today’s rate of carbon emissions

Feedback effects could bring temperatures even higher (permafrost thaw)

Risk

If carbon emissions stabilize at today’s rates:0-2% chance of less than 1° C increase in

temps.

2-20% chance of greater than 5° C increase in temps.

Risk on high side > risk on low side

Projected impacts of climate change1°C 2°C 5°C4°C3°C

Sea level rise threatens major cities

Falling crop yields in many areas, particularly developing regions

FoodFood

WaterWater

EcosystemsEcosystems

Risk of Abrupt and Risk of Abrupt and Major Irreversible Major Irreversible ChangesChanges

Global temperature change (relative to pre-industrial)0°C

Falling yields in many developed regions

Rising number of species face extinction

Increasing risk of dangerous feedbacks and abrupt, large-scale shifts in the climate system

Significant decreases in water availability in many areas, including Mediterranean and Southern Africa

Small mountain glaciers disappear – water supplies threatened in several areas

Extensive Damage to Coral Reefs

Extreme Extreme Weather Weather EventsEvents

Rising intensity of storms, forest fires, droughts, flooding and heat waves

Possible rising yields in some high latitude regions

Anticipated Regional Impacts

Latin America: temperatures are predicted to increase by between 0.2- 2 degrees Celsius (low estimate) to 2- 6 degrees Celsius (high estimate) in the next century. El Niño events will increase in frequency and severity during summer months, and some areas will experience hot and cold waves.

Africa: greater climate variability, and increasing frequency and intensity of severe weather over the next 50 years. The northern and southern latitudes will become dryer and the tropics will become wetter.

Asia: summer and winter temperatures rise by 0.1- 0.2 degrees per decade over the next 10-20 years. Heavy rainfall and cyclone intensity may increase due to disruption of the El Niño cycle and increasing sea surface temperatures.

Source: DFID Keysheets on Climate Change and Poverty, http:/ / www.dfid.gov.uk/ pubs/ files/ climatechange/ keysheetsindex.asp

Examples of Impacts of Climate Change:

Africa

Source: IPCC, Climate Change 2001: Impacts, Adaptation and Vulnerability p. 45

Examples of Impacts of Climate Change: AsiaBoreal Asia Expanded agricultural growing season

Increased active soil temperatures/ better soil climate Northward shift of agricultural boundary Change to timing of snowmelt and therefore altered flow regime Decrease in dry summer season water flow

Arid & Semi-Arid Asia

Exacerbation of threats caused by land use/ cover change & population pressures

Significant increase in surface air temperatures Increased evapotranspiration in plants Acute water shortages

Temperate Asia Significant surface warming & rainfall pattern shifts Increased plant respiration & saturation deficits, decreased agricultural

productivity Intensification of climatic hazards (eg floods, droughts, sea level rise, storm

surges Tropical Asia Changes to hydrological regime

Increased flooding, waterlogging, salinity caused by higher runoff in some river basins

Decreased surface runoff in some basins due to increased evaporation Changes in freshwater availability in coastal regions Sea level rise, leading to inundation of low-lying areas, shoreline retreat,

changes to water table, salinization/ acidification of soil Source: IPCC, Climate Change 2001: Impacts, Adaptation and Vulnerability

Stabilization and Commitment to Warming

1°C 2°C 5°C4°C3°C

400 ppm CO2e

450 ppm CO2e

550 ppm CO2e

650ppm CO2e

750ppm CO2e

5% 95%

Eventual temperature change (relative to pre-industrial)

0°C

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-5.3-7.3

-13.8

-40

-35

-30

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-15

-10

-5

0

2000 2050 2100 2150 2200

% lo

ss in

GD

P p

er

ca

pita

High Climate, market impacts + risk of catastrophe + non-market impacts

Baseline Climate, market impacts + risk of catastrophe

High Climate, market impacts + risk of catastrophe

• Essential to take account of risk and uncertainty• Models do not provide precise forecasts• Assumptions on discounting, equity, and risk aversion affect results

Mean losses in income per capita from scenarios of climate change

Taking urgent action makes good economics - delaying is dangerous and costly

The cost of cutting emissions consistent with a 550ppm CO2e stabilisation trajectory averages 1% of GDP per year in 2050 – this can be achieved by deployment of available technologies and those expected to be commercialised in coming decades

Delaying emissions reductions significantly constrains the opportunities to achieve lower stabilisation - strong mitigation is fully consistent with aspirations for growth and development in poor and rich countries

0

10

20

30

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50

60

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80

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2000 2010 2020 2030 2040 2050 2060 2070 2080 2090 2100

Glo

ba

l E

mis

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GtC

O2

e) 450ppm CO2e

500ppm CO2e (falling to450ppm CO2e in 2150)

550ppm CO2e

Business as Usual

50GtCO2e

70GtCO2e

65GtCO2e

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Costs of climate change

A loss of 5% average per capita GDP ‘now and forever’

Costs are not evenly distributedDeveloping nations will pay higher price

Sub-Sahara Africa (high non-market costs)India & Southeast Asia (9-13% loss in GDP)

Developed nations will vary depending upon geography

US (1-1.2% loss in GDP)

What kinds of costs?

Agriculture Water Temperature

Increased flooding / droughts Extreme weather events

Mortality Heat Malnutrition Disease

Infrastructure Storm damage

Coastal Protection Species Loss

Other potential cost factors

Non-market impacts Environment & human health

Amplified feedback effects Methane release & loss of carbon sinks

Correct weighting of poor regions If these factors are taken into account, total

costs are potentially as high as 20% of world GDP

Economics of Stabilization

Today’s Carbon level: 430 ppm

Pre-industrial level: 280 ppm

‘Business as usual’: 550 ppm by 2035 and 700 ppm by 2100 creating temperature changes unseen in human experience

Sources: National differences

Direct relationship between per capita income and carbon emissions. U.S. emits five time the world average for per

person carbon emissions As populations increase, carbon emissions

will increase As the large populations in Asia (India &

China) continue to develop economically, carbon emissions will continue to increase.

Stabilization Goal

Stabilization defined: A balance whereby emissions are equal to the Earth’s natural capacity to remove the gases.

Carbon Goal to obtain stabilization: 450-550 ppm Cut of 25% of current emissions levels by 2050 Cost of abatement: Approximately 1% of world GDP Consistent with continued growth & development

Emergency PathwaysGlobal emissions peak in 2015. Drop by 50 - 80% by 2050

Delaying the peak, or slowing the subsequent rate of reductions, increases the risk of exceeding 2ºC

Risk of exceeding 2ºC

What does the Emergency Pathway mean for Southern development?

80% global reductions by 2050

90% by 2050 in the North

What’s left for the South?

Greenhouse Development Right Framework

28

$9,000/capita (PPP)“development threshold”

Income and Capacity National income distributions showing capacity (in green) as fraction of income above the development threshold

India China US

Cost of delay

Mitigating carbon emissions is a slow process Once abatement proceeds, peak emissions

will still not occur for ten or more years The longer the wait, the greater the risk

factors associated with drastic climate change

The longer the wait, the greater the costs associated with abatement

Abatement Opportunities I

Reduce non-fossil fuel emissions Land use (deforestation)

Halt deforestation especially in tropics Plant new forests Require enforcement & regulatory costs Require aid from developed world

Agriculture Change tilling practices Produce bioenergy crops

Abatement Opportunities II

Reduce Demand for Emission-intensive goods Primarily energy use in heating, transport, &

electricity Pricing signals via taxes. Costs to

atmosphere should be included in purchase of offending products

Change preferences via information

Abatement Opportunities III

Improve energy efficiency Power generation Energy use

Efficient appliances & vehicles

Greatest abatement potential may lie here.

Abatement Opportunities IV

Switch to lower carbon emitting energy production Wind Wave & tidal Solar Carbon capture Hydrogen Nuclear Hydroelectric Bioenergy

Policy requirements

Successful policy requires three elements:1. Carbon pricing

2. Technology policy

3. Remove barriers to change

Carbon Pricing The cost of carbon emissions must be included in the

pricing of carbon emitting goods This will result in:

Less of the offending activity Incentives to find non-emitting alternatives

Types of pricing Taxes

Pros: creates revenues Cons: unpopular, does not directly control amount of

emissions Carbon trading (cap & trade)

Pros: efficient, directly controls amount of emissions Cons: does not create revenue

Technology Policy

Public investment in R&D R&D subsidies encourage private firms to

invest in risky technology Creation of new technologies become public

goods which can be dispersed globally

Remove barriers to change

Standards Where carbon pricing proves ineffective,

regulatory standards may be useful Education

Understanding of climate change and its consequences can shape future policy

Adaptation Strategies

High-quality climate information Rainfall & storm patterns critical

Land-use standards Infrastructure should account for climate change

Climate sensitive public goods Natural resource & coastal protection Emergency readiness

Social safety nets Those who are most vulnerable and cannot afford

protection (insurance)

Collective Action

Climate change is a global problem which will require: Building of effective institutions Shared understanding of long-term goals Leadership and trust

http://webarchive.nationalarchives.gov.uk/+/http://www.hm-treasury.gov.uk/sternreview_index.htm

Stern Review on the Economics of Climate Change

Thanks !daniel.de.la.torre.ugarte@unctad.orgdanieltu@utk.edu