Cross Post: Peter Lang – Why The World Will Not Agree to Pricing Carbon II

Introduction.

A new report by Sir Nicholas Stern and co-authors Better growth better climate, released a week before the UN Climate Summit in New York (September 2014), advocates governments around the world intervene to impose carbon pricing, wind and solar power, and energy efficiency improvements.  They imply the net economic costs could be negligible.

However, these claims do not seem to reconcile with results from the DICE-2013R model, developed by the highly respected and cited climate economist, William Nordhaus.  Here I draw on the work by Nordhaus to argue that a global agreement on carbon pricing is unlikely.  I focus on the probability that carbon pricing schemes will succeed rather than debating the various estimates of the projected costs and benefits; the latter are extensively debated in the literature.  I conclude by suggesting an alternative to carbon pricing.

The issues presented here may have significant policy implications.

Net-benefit of carbon pricing and participation rate.

The following chart shows the projected net-benefit to 2100 of carbon pricing under seven scenarios.  All scenarios show negative net-benefit for nearly all this century.  The information is derived from the Nordhaus DICE-2013R Integrated Assessment Model, the most widely used and cited model for estimating costs and benefits of different policy options and the carbon prices needed to achieve them.

Lang 3

Source: Derived from DICE-2013R model (Excel version); see also ‘User’s Manual

Each series shows the present value net-benefit compared to a baseline.  The vertical axis is $ trillion per 5-years.  Net benefit is projected benefit (reduced climate damages) minus projected abatement cost.  Present value is calculated using the discount rates for the ‘Baseline’ scenario.  The Baseline scenario assumes the policies to reduce CO2-eq that existed in 2010 will continue unchanged until the year 2300.  It can be thought of as the ‘take no more action’ scenario.  The purpose of this scenario is to provide a comparison for the other scenarios. The costs and benefits of the other six scenarios are subtracted from the Baseline scenario to calculate the change from the baseline.  The scenarios (except ‘1/2 Copen Partic’) are described in DICE User Manual, pp24-25.

All scenarios except ‘Copenhagen’ and ‘1/2 Copen Partic’ assume 100% participation from 2010;  i.e., all countries implement a carbon price in unison in 2010, the pricing scheme covers all human-caused GHG emissions, the price and rules are adjusted globally in unison and it continues for 290 years.

The ‘Copenhagen’ scenario assumes increasing participation from that existing in 2010 and reaching 100% participation in 2100.  DICE-2013R ‘Version Notes’ say “… the participation rate are set to match the Copenhagen pledges with optimistic phase in”.  US, EU, Japan, Russia and ‘Other High Income’ countries become 100% participants in 2015.  However, these assumptions are unrealistic.  In 2013, only 45% of EU emissions are included in the EU ETS and only 49% of US emissions are required to be monitored and reported by the emitters; none are priced.  The assumption of 100% participation being achieved in any country this century, if ever, is unrealistic.

The DICE-2013R model does not include Copenhagen ‘realistic’ or ‘pessimistic’ participation rates, so I added another scenario to test the sensitivity of the net-benefits to the participation rate.  I arbitrarily halved the ‘Copen’ participation rate and call the scenario ‘1/2 Copen Partic’.  The chart shows the net benefits are negative for all this century.

[Note: The irregularities in the ‘Copen’ and ‘1/2 Copen Partic’ lines are caused by the assumed Copenhagen participation rate to meet the Copenhagen commitments (not yet ratified).]

The table below shows the net present value (NPV) from 2010 to 2050, 2100, 2200, 2300 for the Copenhagen scenario (column 2) and the 1/2 Copenhagen participation rate scenario (column 3).

Participation factor (relative to ‘Copenhagen‘ scenario):

Full

Half

  through 2050

-4.26

-12.60

  through 2100

-6.26

-32.72

  through 2200

11.68

-24.50

  through 2300

19.41

-17.27

  through end

19.52

-17.16

At the Copenhagen participation rate, which as noted above is optimistic, the NPV is negative for all this century.  At half the Copenhagen (optimistic) participation rate NPV is negative to 2300 and beyond.  Clearly, at a realistic participation rate, the world’s nations are not likely to agree to carbon pricing because the costs exceed the benefits, at least in the time frame over which policies must deliver net benefits if they are to be politically sustainable.

Further, for the reasons discussed in Part 1, even the ‘1/2 Copen Partic’ participation rate is unlikely to be achieved.

A better way.

Carbon pricing is considered by most climate economists’ to be the optimum way to cut global GHG emissions.  But, arguably, there is a better way.  It is to deregulate so the cost of low-emissions energy can come down over time, especially in developing countries.  With this approach there would be no need for carbon pricing, emissions monitoring, or enforcement mechanisms involving policing, disputation, conflicts and international courts.

An example of what could be achieved would be if the USA (and IAEA) removed the impediments to nuclear power that are causing it to be far more expensive than it could and should be.  This act alone could unleash innovation and global competition leading to cheaper, safer and more reliable electricity for the world.  Cheaper electricity would allow nuclear power to substitute for some fossil fuels for heating and for production of transport fuels (e.g. unlimited transport fuels from seawater).  Nuclear generated electricity could be around half the cost of fossil fuel generated electricity by 2050.  Nuclear power would replace fossil fuels for electricity generation at an accelerating rate.  It would cut GHG emissions from electricity and also from fossil fuels used for heat and transport fuels.   Emissions could be reduced concurrent with global economic benefits.

This post originally appeared at Master Resource.

Peter Lang is a retired geologist and engineer with 40 years’ experience on a wide range of energy projects throughout the world, including managing energy R&D and providing policy advice for government and opposition. His experience includes: hydro, geothermal, nuclear, coal, oil, and gas plants and a wide range of energy end use management projects.

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23 Responses to Cross Post: Peter Lang – Why The World Will Not Agree to Pricing Carbon II

  1. cohenite

    CEI looked at Nordhaus’s repudiation of AGW’s cost/benefit analysis in 2007; they noted:

    In a landmark study that should shift the terms of the debate over what to do about global warming forever, Yale economist William Nordhaus has found that the favored programs of Al Gore and Sir Nicholas Stern would cost the world more than unmitigated global warming. He found that global warming under a business as usual case would inflict damage on the world amounting to $22 trillion. Sir Nicholas Stern’s proposed course of action would reduce that damage to $9 trillion, but at a cost of $27 trillion, for a total cost to the world of $36 trillion, $14 trillion more than unmitigated global warming. Al Gore’s package of measures would reduce global warming costs to $10 trillion at a cost of $34 trillion, for a total cost of $44 trillion, twice the total cost of global warming. A variety of measures aimed at keeping global warming below 1.5 degrees Celsius would have similar benefits and costs to the Stern proposal. Nordhaus proposes a modest carbon tax as the best way to tackle global warming, providing the most benefit at the least cost, but does not fully analyze a resiliency/adaptation approach such as that advanced by Prof Julian Morris and others, including CEI. Nordhaus’ study should demonstrate that the policies proposed by alarmists are so harmful to the world that they should no longer be seriously considered by policy makers. Instead, the debate should switch to which of the policies suggested by Nordhaus or Morris would be the best way forward.

    Nordhaus’s paper used to be here but I can no longer locate it:

    http://nordhaus.econ.yale.edu/dice_mss_072407_all.pdf

  2. Emissions could be reduced concurrent with global economic benefits.

    Not true. Spending money and resources to mitigate a non-existant problem can never have nett economic benefits.
    Luke warmers (most sceptics) have the same problem as the rabid alarmists I.e. explain the lack of warming over the last 17 years despite ever increasing emissions.
    “Natural variation” is not an answer and leaves sceptics sounding just like alarmists clutching at excuses.

    Truth will out, that is that CO2 is a nett COOLANT at current levels.

  3. Peter Lang

    Cohenite, Thank you for the quote. The links to Nordhaus’s home page were changed a while ago. His home page is now here: http://www.econ.yale.edu/~nordhaus/homepage/ .

    Nordhaus has an interesting critique of the Stern Review on p167 here: http://www.econ.yale.edu/~nordhaus/homepage/Balance_2nd_proofs.pdf

    In my opinion, Nordhaus has become progressively more persuaded about CAGW since 2007. I can give many examples. However, my aim in this post is not to argue about the inputs to the climate economics models because that is done extensively in the literature by experts and others. What I am trying to highlight is that the assumptions, especially about the participation rate of global carbon pricing likely to be achieved in the real world, are unrealistic. If realistic participation rates are used, then the costs would exceed the projected benefits for all this century and beyond. it would be damaging to the global economy and, therefore, to human well-being. Negotiators know this so it is unlikely there will be a global commitment to carbon pricing. That’s the key take-away point I wanted to make.

  4. Bruce of Newcastle

    Carbon pricing is considered by most climate economists’ to be the optimum way to cut global GHG emissions. But, arguably, there is a better way. It is to deregulate so the cost of low-emissions energy can come down over time, especially in developing countries. With this approach there would be no need for carbon pricing, emissions monitoring, or enforcement mechanisms involving policing, disputation, conflicts and international courts.

    Since real world ECS is below 1 C/doubling there is already no need for carbon pricing. Period. Therefore the NPV of any case with a non zero carbon tax will be worse than the base case of doing nothing because there is no actual detrimental effect of greenhouse gases.

    I have no problem with deregulating low-emissions energy so long as those technologies also meet the essential environmental regulations that any power generation echnology should – so wind turbines and large scale solar installations are excluded because of their catastrophic environmental impacts.

  5. rickw

    I had a discussion with some Oil Company staff working on determining a process for complying with the potential for carbon pricing.

    I asked if they felt that if AGW fell completely on its face would the whole carbon pricing idea also fall apart, their answer: “No, there are to many vested interests”.

    Carbon pricing has a number of things “going for it” at an international level:
    – Carbon has now been stage managed to mean “pollution”.
    – It is effectively a tax.
    – It is a mechanism for wealth redistribution to the third world.
    – There are cushy international jobs to be had with administering all of this.

  6. egg_

    – There are cushy international jobs to be had with administering all of this

    That’s why 2,000 UN delegates fly to a conference to “save the planet” from GHG* emissions?

    *Hypothetical only

  7. Pyrmonter

    In summary then, PL contends that:

    (a) because of the concavity of the mitigation cost function (something which seems a fair conjecture -re-stated, it is diminishing marginal returns); and
    (c) because there will be some hold-out free-riders,

    the cost of (complete) mitigation becomes insuperably large, and thus will not occur.

    In answer:

    (a) the argument implicitly assumes something close to “optimal” mitigation. If, say, those countries that participated did so to the extent they might under an “all in” model, some lower level of mitigation would be achieved, at significantly lower cost (which follows form the concavity of the cost function);

    (b) there is also an assumption that none of the participants is “large”, that is, doesn’t bear a significant share of its own non-mitigation. I’d suggest that the US; Europe seen as a whole; and fairly soon China, will count as “large” and therefore have a positive, if not necessarily “socially optimal” level of GHG mitigation: the private level of output of a collective good is not normally nothing; it is just likely to be the level that suits the “largest” participant in the market (I think this is Olson, but would need to check – might be Coase)

  8. Pyrmonter

    Oops – wrote concave when I meant convex. Maths … it was a long time ago.

  9. Peter Lang

    Pyrometer,

    I am not sure I fully understand what you are saying beet it seems to be a misunderstanding of the assumptions underlying the economists’ analyses. These are explained and summarised in Part 1, here: http://catallaxyfiles.com/2014/10/26/cross-post-peter-lang-why-carbon-pricing-will-not-succeed-part-i/comment-page-1/ You didn’t mention if you had seen them first and din’t quote the parts you are referring to, so I am a bit confused as to what you are arguing. Could you please explain your point a different way and in layman’s language for a non economist.

    I’d just add that the participation rate chart in Part 1 is the cost penalty to the participants (when participation is less than 100%) for reaching the specified level of GHG emissions.

  10. Pyrmonter

    PL

    I commented on the earlier part, so confirm I have read it.

    I was trying to distill what I think is the “economics” in the argument.

    You (I think rightly) conjecture that the costs of mitigation are concave; the commonsense logic to that is that you’d expect low cost mitigation to be preferred to high cost (I could go on about how I think that isn’t what is happening because we don’t use long run prices, but will leave that for another day). There are a number of ways to arrive at this: mitigation has both a “supply” and a “demand ” side – but assuming concavity seems sensible enough.

    As I understand you, you then conjecture (again, probably rightly) that some countries won’t “play along”. This could be for obstinacy or backwardness; or it could be quite rational, because if they will get the benefit of others’ mitigation, they face little or no incentive to do any themselves.

    This is a classical example of what is called a “free-rider” problem with what are called either “public”, or better, “collective” goods. In this case, there is some output – say radio broadcasts, vaccination or an environmental “good” – which can be shared with others at nil marginal cost. Where the benefit of collective goods such as these can be excluded, there is some scope to charge for them (that is the basis of intellectual property); but in the case of GHG mitigation that seems improbable. That leaves a situation where some, possibly many, countries have no incentive to participate in a GHG mitigation program.

    You then assume that if some countries don’t “play the game”, some others will have to “pick up the slack”. That’s the first point at which I think your argument falters: it assumes that the target level of mitigation is fixed, rather than the result of trade-offs between cost and benefit. It seems likely to me that if some countries hold out, others might do a little more; but to suggest they’ll pick up the entire slack overstates the likely response, and thereby leads to an exaggeration of the costs involved.

    Although it isn’t an express argument, I think you also assume that it won’t be “privately” rational for a “large” country – one that bears a significant share of the cost of AGW as well as potentially bearing a share of the cost of mitigation – to mitigate using markets. I can’t prove it, but I think it a reasonable conjecture that, in aggregate, there is a positive level of mitigation that is optimal for each of the US, the EU and China. They may end up in games trying to force each other to mitigate; but they might not.

    On the issue of your suggested solution: I half agree; half, in the sense that yours is a supply-oriented solution. It makes commendable sense to remove unnecessary regulation (this is, more or less, what the early “no regrets” mitigation measures were supposed to involve); but I see no reason why, in terms of an economic analysis, one would focus only on one half of the pair of scissors: imposing a price-based solution such as a carbon tax or ETS should also lead to conservation and reduction of output demanded on the “demand” side of the Supply and Demand analysis. To focus on one solution to the exclusion of the other is, in all likelihood, to venture down another path of excessively costly mitigation.

  11. TL:DR
    You don’t need to be an economist in this debate. You just need to be a taxpayer, and do a chart showing every cost ever estimated by a government versus what the stuff actually cost. That alone should be “all aboard the train to get fucked”.

  12. Peter Lang

    Pyrometer, my apologies. My mind was focused on the other thread. Sorry for that wobble.

    This is good to have this discussion. I need this challenged. Thank you.

    Regarding your points, I think you may have misunderstood that the cost of less than 100% participation rate is from Nordfhaus’s analysis, not my assumptions or conjecture I can’t argue for or against his assumptions and analyses. They have been debated extensively in the literature. The assumptions and analysis methodology is documented in Chapter 6, pp116-122 . His analysis keeps the benefit constant and estimates the cost to the participants of less than 100% participation. If we wanted to take an approach as you suggest we’d need another authoritative, well documented, readily accessible analysis that gives both the cost and the benefit of less than 100% participation. That would be far more complicated and I don’t know of one.

    I’d point out that the world can’t even agree to a global free trade agreement, in which nearly everyone is a winner, so what chance is there of agreeing to a global carbon price, which would make nearly everyone a loser and continue as a drag on the economy for a century or more? There will frequently be powerful people like Russia’s President Puttin around who will disrupt any global agreement no matter how good. I think game theory explains the realities of what happens in the real world pretty well.

    On the issue of your suggested solution

    That issue needs another post on its own. I perhaps should not have mentioned it in this post, but thought I at least needed to mention there is an alternative that needs much serious consideration than it has had to date. From my perspective it is a genuine alternative to carbon pricing by fiat (which is another intervention by government that will inevitably be manipulated by politicians and NGOs for their own purposes forever). If we removed the impediments to nuclear power, over time it will becone much cheaper than fossil fuels. From that everyone would be a winner, and global GHG emissions from electricity could be halved by near mid-century. And that’s just one example. I suggest it is well worth economists giving this alternative approach much more attention than they have so far. But, as I said, this is a debate for another thread.

    In the meantime I’d really like to get some feedback on the chart in Part 2, and especially on the scenario I added: ‘1/2 Copenhagen participation rate’. I’d like to know if there is a serious flaw in this chart. Because, if there isn’t, I believe it shows it would be irrational to proceed with carbon pricing.

  13. Pyrmonter

    PL – I’ll try to get back on something slightly meatier, but in the short run – free trade probably isn’t a collective good, so doesn’t have the free-riding problems a global environmental issue can: in the traditional view, most countries are “small”, that is, have no influence on world prices; while they gain from opening up to trade, the rest of the world isn’t better off. If you’re “big”, that is, do have an influence, the free trade analysis is more complicated (this was, dare I mention it, an idea resuscitated by Krugman, in the far off time when he sounded half-sane). The characteristics of a collective good are “non-rivalrousness” – there is no additional cost to consumption; and (more problematically) an inability to exclude. The classical examples are lighthouses; broadcasting; communicable diseases; language and, arguably, currency.

  14. Peter Lang

    Pyrometer,

    I don’t understand that. I understood there is widespread agreement among economists that free-trade is a net benefit to countries’s economies and therefore to their people. I recognise there are always a few exceptions to the rule and transitional issues that must be dealt with in each country, but that doesn’t override the main point, does it?

  15. Pyrmonter

    Peter – for a “small country” – that is, one that cannot in the long term influence the prices at which it can buy and sell – free trade is (making some fairly realistic assumptions) a good thing. For a country that isn’t “small”, that is, which can influence the prices at which buys, sells, or both, there could be an optimal trade intervention to try to extract a benefit from price manipulation. In practice, the likelihood of any state ever being able to spot and harness that benefit is very low – so low that most economists I’ve known disregard it.

    Krugman wrote a celebrated summarizing article in a journal the American Economics Association publishes for the general reader, linked here: http://pubs.aeaweb.org/doi/pdfplus/10.1257/jep.1.2.131

  16. ProEng

    Got lost somewhere in the post.
    However, some better points maybe
    1/ There is no need for carbon pricing or any mitigation effort by governments because combustion of fuel does not adversely affect climate but on the otherhand improves plant growth which is a benefit for food production.
    2/ Control by government(s) on the means of production and the free market will lead to inefficiencies
    3/ Most economists have no idea about, technology , innovation or ingenuity
    4/ Nicholas Stern is a political creature who has been criticised for his absolute lack of understanding of technology and science, and has also been criticised by economists for getting wrong or misrepresenting financial calculations (such as using zero discount when it suits him)
    5/ Feasibility studies need the input of engineers to give capital and operating costs but because accountants and economists do not understand the make up of these costs the figures presented by them (eg the Stern Report) is usually nonsense.
    Feasibility studies should be prepared and signed off by experienced engineers, who comply with a code of ethics, within a risk framework. Even then the outcome maybe a failure

  17. cohenite

    The point about Nordhaus is that every abatement program costs more than the ‘problem’, which doesn’t exist, a double whammy. Even the IPCC [inadvertently] concedes this point as Jo notes.

    That is the IPCC Working Group II estimates the cost of a 2C temperature rise as being between “0.2 and 2.0 per cent of income.” But at the same time, the WG III says to prevent 2% damage to our GDP will cost 10% of our GDP.

    Analysing this degree of stupidity is essentially pointless.

  18. Pyrmonter

    PL – I may have been side tracked slightly in your point by the trade aspect.

    The thing about free trade by a small country is that it captures all the benefit of opening up to trade; trade in that sense isn’t really a “collective good” in the way that, for example, creating herd immunity through vaccination is: in that case, there is a benefit both to the vaccinated individual, and to those with whom he or she deals by not passing on a communicable disease.

    The conventional neoclassical theory (rightly criticized, but it has some insights) is that “goods” with a collective or “positive external” benefit will be under-provided by voluntary exchange, because there may not be sufficient incentive to, for example, incur the inconvenience of undergoing vaccination.

    In real life, one tends to see characteristics like stigma or sanction attaching to breaches of “rules” where someone is perceived not to do the “community minded” thing – the millionaire miser who uses medical services provided for the poor suffers opprobrium etc.

  19. Pyrmonter

    ProEng

    Trolling slightly:

    (a) it might be said that the beauty of economics is its technological neutrality: the theory of comparative advantage no more depends on the steam engine than it does Steam the games platform. (We could have a debate one day about which has contributed more to the sum total of human welfare – my money is on the latter; but I say that as a Civilization V addict)
    (b) if a zero discount rate is inappropriate, what rate is? Is that rate observable? Should it reflect the risk of monetary manipulation by fiat currency authorities (I’ll venture no)?
    (c) in my experience (economics/accounting) I can find 10 engineers who don’t understand the time value of money for every economist who can’t quite understand capital – economists tend to be well drilled in that sort of thing.

  20. Peter Lang

    Pyrometer, I am not finding the points about free trade persuasive. It seems you are swimming against the mainstream. Can we just take Nordhaus’s DICE-2013R model with his default inputs as the basis and then argue about whether or not there is a major flaw in what I’ve done to produce the chart in Part 2, especially the 1/2 Copenhagen participation rate line. Because, unless that calculation that produced it are shown to be wrong, buy a large margin, I am strongly persuaded that this is strong support for the argument that carbon pricing is irrational.

    I’d like to avoid getting side tracked into debating the DICE model because that is widely debated in the literature and it is the most cited and used of all the economic climate IAMs. So there is no point in debating whether or not there are flaws in DICE here. That’s a subject to debate with those Nordhaus and his co-workers. Arguably, the projected damage costs from DICE default are well on the high side ECS is 3.2, damage function is high, discount rate is low and declining, emissions rate is near RCP8.5, and the participation rate is impossible to achieve (as I understand it). Regarding RCP, the DICE User Manual says (p23):

    The DICE-2013R baseline radiative forcings is close to the RCP 8.5 forcing
    estimates through 2100, then midway between the RCP 8.5 and RCP 6.0
    after 2150. The DICE temperature projection for the baseline scenario is
    very close to the model ensemble for the RCP 8.5 through 2200. This
    suggests that the DICE-2015R has a short-run temperature sensitivity that
    is slightly higher than the AR5 model ensemble. (Figures 12.4, 12.5)
    ? Emissions in the baseline are close to those of the RCP 8.5 scenario. Total
    CO2 emissions in the DICE baseline total 103 GtCO2 compared to 106 GtCO2
    in RCP 8.5. Cumulative CO2 emissions in the DICE baseline are 1889 GtC
    compared to 1750- 1900 GtC in the models used for RCP 8.5. (p. I-60, I-61)

    So, all these important points are on the high side of the central estimates. I just point this out so we can get back to challenging whether or not the chart is correctly calculated, and avoid getting side tracked into debating all the issues about climate science and the integrity of DICE and the inputs used.

  21. Peter Lang

    Pyrmonter, sorry, I notice I’ve been spelling your name incorrectly. I’ll get it right from now on.

  22. 2dogs

    Sir Nicholas Stern and co-authors … imply the net economic costs could be negligible.

    So let’s reject any CO2 mitigation proposal that is more expensive per tCO2 than Stern’s estimate.

    Anyone heard of any such proposal lately? Didn’t think so.

  23. Pyrmonter

    Pyrmonter hails from Pyrmont; while there may have been pyrometers in the vicinity (it used to be the location of one of CSR’s sugar refineries), I try to keep my temperature cooler.

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