Sunday, November 24, 2013

What can Economics contribute to climate research?

Continuing a series of blog posts about the contribution of social sciences and humanities to the understanding of climate science (here and here), today I turn the attention to economics, the most visible social science involved in climate research, in the IPCC, and in climate policy. In recent years supporters of climate policies and the media has given much attention to a report published for the UK government in 2006 (known as the Stern Review, after its main author). While the Stern Review came up with contested cost-benefit analyses and relied on the official IPCC climate modelling exercises, MIT economics professor Robert S. Pindyck takes a different approach. Emphasizing a lack of knowledge, he poses the question what should be done in the face of uncertainty. He has recently published a paper with the title Climate Change Policy: What Do the Models Tell Us? For a short answer, the first sentence of the abstract puts it in your face:

Very little. 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.

The paper is worth a read, despite being technical at times. There is a good write-up in the Washington Post by Robert J Samuelson. He says:

Pindyck sounds like a “global warming denier.” He isn’t. True, he thinks climate change and its adverse economic consequences could be wildly overstated. He also thinks they could be wildly understated. The effects might ultimately be catastrophic. We simply don’t know. Ignorance reigns. The best course, he says, would be to adopt a modest carbon tax — because there are certainly some ill effects of global warming — and adjust it as we learn more. Meanwhile, we shouldn’t assume that computer models convey scientific truth. “The models create an illusion of knowledge,” he says. “For me, the issue is being honest.”

The tent of climate pragmatism is getting bigger.

h/t Roger Pielke Jr


Pekka Pirilä said...

Journal of Economic Literature has published a series of three articles under the title Forum: How Should We Model Climate Change? in its
September issue. Pindyck's article is one of those. The two others are by Nicholas Stern and Martin L. Weitzman.

Nobody should be surprised by the fact that Stern's view is quite different. He writes in the abstract:

Scientists describe the scale of the risks from unmanaged climate change as potentially
immense. However, the scientific models, because they omit key factors that are hard
to capture precisely, appear to substantially underestimate these risks.

Weitzman has a more technical approach as he concentrates on problems of discounting.

Anonymous said...

Does the Post journalist talk about IAMs or about climate models? He writes "computer models". They are connected, okay.

He also writes:

"But we do know the size of the budget deficit, and we do know that revenue from a carbon tax might help finance a simplification of the income tax. By addressing multiple problems, an admittedly unpopular carbon tax might command broader support. Who knows? It might even pass."

He proposes a carbon tax that is neutral in overall tax burden. I think it is an interesting idea, but it is not new at all. It is used in several countries, incl. Germany. It seems to work in some of them. However, Australia will scrap it again because PM Abbott does not believe in climate change. Well...

I see a chance for such a tax in some US states, but not as a federal tax. No chance, even if it does not increase overall tax burden.

I do not see so much a problem in the actual mechanism: emission certificate trading or tax or regulation, but in the motivation to actually do it.

Pekka Pirilä said...

Pindyck discusses IAMs. GCM type climate models affect the outcome indirectly to the extent they influence estimates of climate sensitivity and the likelihood of catastrophic outcomes.

Anonymous said...

What can Economics contribute to climate research?

I think a lot. Climate science and philosophy can teach us why we should act. The debate about "why" is over, no further IPCC report will change the answer.

So we can take the next step and think about HOW we should react. I don't know why Reiner starts with the Pindyck paper (maybe because it's one of the few economist papers promoted in skeptic blogosphere?), but if we read it carefully, we discover a kind of consensus of economists:

"My criticism of IAMs should not be taken to imply that, because we know so little, nothing should be done about climate change right now, and instead we should wait until we learn more. Quite the contrary. One can think of a GHG abatement policy as a form of insurance: society would be paying for a guarantee that a low-probability catastrophe will not occur (or is less likely). As I have argued elsewhere, even though we don’t
have a good estimate of the SCC, it would make sense to take the Interagency Working Group’s $21 (or updated $33) number as a rough and politically acceptable starting point and impose a carbon tax (or equivalent policy) of that amount. This would help to establish that there is a social cost of carbon, and that social cost must be internalized in the prices that consumers and firms pay. (Yes, most economists already understand this, but politicians and the public are a different matter.)

In short: SCC is quite uncertain, but we should start with a carbon tax, which seems to be the best way to tackle global warming.

Note the last sentence in brackets: economists can contribute a lot, but there seems to be a communication problem. I doubt if most economists would prefer the German "Energiewende" and "EEG".


Pekka Pirilä said...

I'm perhaps a quarter economist (for the rest I'm a physicist and energy engineer). To me both the question of how much we should spend in mitigation, and what we should do right now to induce that spending are very difficult questions.

In 2010-11 I wrote several posts on those difficulties (my name above links to those posts). Having worked quite a lot with similar models I have similar doubts on what can be learned from the results of IAMs as Pindyck tells about. The models are a really useful tool in learning about the ways different factors affect the economics, but many of the inputs are so uncertain and the high level of aggregation influences the models so much that the results of any IAM type model are not of much value for anyone who has not worked with that particular model extensively.

Anonymous said...


agreed. We cannot use the results of IAMs to set a fixed price on carbon. But do you think economist's can't contribute anything to climate debate?

I have no clue about economy. What do you think about Pindyck's suggestion of a carbon tax starting with values at the lower end (about 25 $/t CO2) and see how it works? Sounds reasonable.


Pekka Pirilä said...

In the last of my old posts I wrote:

The above examples are related to an attempt to use economic incentives to produce more than the state of knowledge allows. A Pigovian tax that corresponds to actual externalities is economically justified, but an economic incentive scaled to produce strong effects disregarding the economic efficiency may be much more distortive than doing nothing at all.

By that I agree on the idea that a modest carbon tax is the least controversial policy choice. By 'modest' a mean something similar than Pindyck proposes. The problem with that is in the effectiveness of such a policy. It does not necessarily make any big dent in the emissions. On the other hand a much higher tax may lead to short term actions that are both wasteful and of little persistent value. Making rapid changes without a large risk of major errors is difficult, and may be too difficult to succeed.

(My view is that such problems have materialized in the German renewable energy policies. Their cost-efficiency has not been acceptable and much of what has been done is of little long term value in my judgment.)

Anonymous said...


yes, a modest carbon tax wouldn't probably be a big dent in emissions at the beginning (!), but it would be a step forward. The problem with climate negotiations about how to achieve the 2° goal is that the countries have to talk about carbon budgets. Very complicated and in the end we achieve nothing. Maybe it would be an easier way to talk about carbon taxes instead.

In Germany we say "Der Spatz in der Hand ist besser als die Taube auf dem Dach."


Pekka Pirilä said...

Carbon tax has several advantages in comparison to quota and trading, but also some severe disadvantages.

Carbon tax was discussed and implemented at some level before the idea of cap and trade was introduced and took over. Within EU carbon tax lost because harmonized taxes can be implemented only through a unanimous decision, while the present system could be realized with some level of majority. Similarly on wider international level "tax" is a dirty word that many understand to oppose while relatively few understood what Kyoto agreement was about.

The largest problem of cap and trade is probably in agreeing every few years on national quota which have a great economic value. Deciding on the total cap is also very difficult as experience tells. Now the total cap seems to be too high, but could have been too low.

A further problem on cap and trade is that no individual actor like a company is affected by the cap directly. They are affected by the resulting price of permits, and the future price is difficult to predict. That leads to a poor incentive for investments.

The proper level of tax is also a problem, but not as severe. The real goal is reducing emissions, not reaching some artificial cap. Some rules could be proposed for adjusting the tax level based on new understanding gradually enough to maintain an efficient incentive for investments.

All the above speaks for the carbon tax (except the difficulty of deciding on that), but there are also severe disadvantages.

The most severe is perhaps due to the large difference in the exchange rates and purchase power parities of poor countries. Due to that a harmonized carbon tax at the same level would be extremely hard for the poor people of poor countries. Solving the similar issues appears to be easier in case of cap and trade than for carbon tax. Both with carbon tax and with emission trading it's difficult to reach simultaneously acceptable international equity and prevent excessive carbon leakage.

There are no easy solutions, but I'm afraid that the present one is even worse than many alternatives.

Pekka Pirilä said...

The Japanese seem to have a new major project working on the interface of climate science and economics

I learned of that from the new starting blog of Jules Hargreaves

Anonymous said...


thank you very much for your thoughtful comments. You know much more about economics than I do, so you can contribute a lot to climate debate, which gives a strong answer to Reiner's question in the headline.

Yes, the least developed and developing countries are a problem for a carbon tax. Maybe they can set a lower tax, but it's complicated because of possible carbon leakages.

Best regards

Howard said...

Why are not tax breaks for CO2 reduction discussed? It seems a more direct way to motivate businesses to make investments in energy efficiency.

MikeR said...

"yes, a modest carbon tax wouldn't probably be a big dent in emissions at the beginning (!), but it would be a step forward."
I'm not an economist, but I vote with Richard Muller and Bjorn Lomborg. It is _not_ a step forward, because it should be perfectly obvious by now that none of these things are going to happen in any way that makes any real difference. China and India are going to wipe out anything you do tenfold. Deal with reality.
If an action is not going to do anything effective, and you keep insisting on it anyhow, then you are just trying to make yourself feel good. There are plenty of ways to spend your money and political capital that are actually effective and will help people.

If science demonstrates that one of the really catastrophic impacts are reasonably likely, then major efforts become appropriate. Till then, this is a misdirection of great effort, when there are really urgent needs out there.

Anonymous said...


this would only lead to more subsidies. Economists prefer the "Internalise externalities" approach.


Pekka Pirilä said...

The idea is to also reduce carbon intensive consumption, not only to promote low carbon intensity production. Having both goals requires taxes or equivalent charges, not tax breaks.

@ReinerGrundmann said...

Unless there are competitive zero carbon energy technologies there is an inherent limit of what a carbon tax can achieve in terms of making a dent in the Keeling curve.
Therefore, a very modest tax should be collected to invest in radical new energy technology innovation.

Anonymous said...

Reiner Grundmann (#16)

Ich denke, ihr Ansatz greift zu kurz: Aus ökonomischer Sicht geht es nicht darum, mit einer Karbonsteuer Gelder einzunehmen, die der Staat dann sinnstiftend wieder verteilen kann.

Es geht darum, das bestehende Marktversagen zu beheben, indem externe Kosten im Sinne einer Pigou-Steuer internalisiert werden. Dann wird die "unsichtbare Hand des Marktes" den Rest schon von alleine richten.

Meiner Meinung nach wäre dann auch die Suche nach neuen Technologien nicht zwingend erforderlich, die bestehenden Technologien (Kernkraft, CCS, Wind und evt. sogar solar) wären bei einer Internalisierung schon mehr als konkurrenzfähig.

Das Hauptproblem besteht nicht im Fehlen von preisgünstigen Technologien, sondern im gegenwärtigen Marktversagen: Die Übertragung der Folgekosten der Verbrennung fossiler Rohstoffe ist eine versteckte Subvention, der Markt ist fehlgesteuert. Dieser Subvention mit Subventionierung Erneuerbarer Energien zu begegnen wie beim EEG ist ökonomisch fast schon absurd.

(mit einer Entschuldigung für deutsch als Sprache: der Schädel brummt von der Arbeit, das Englisch wäre momentan wohl völlig unverständlich)

Was halten Sie von meiner These:
Die Klimawissenschaft rückt immer mehr in den Hintergrund, die Frage des "Wie sollen wir handeln" wird wichtiger, die Ökonomie sollte sich zur Leitdisziplin in der Klimadebatte entfalten.


@ReinerGrundmann said...


the above post has made clear that we do not know what the social cost of carbon is. Hence we do not know how to internalize the cost (and even if this was known we still might be unable to impose such a mechanism for political reasons).

Unlike you suggest, the zero carbon technologies do not exist. You mention CCS (not operational on scale); wind (intermittent and costly), nuclear (not acceptable in many countries and costly).

What climate science can tell us is that we might have a long term problem if we keep emitting CO2 as we currently do. It is not clear how big the problem will be. We are looking at political decisions under uncertainty (which is the case in many, many other policy areas). I would be in favour in pragmatic solutions, solutions which make sense, are a step in the right direction, and politically acceptable.

To frame this problem, again, as one where one needs a 'leading science' (Leitwissenschaft) means delegating the politics to experts.

However, I agree with your phrasing of the central question. It is 'what needs to be done'? This question is a question pertaining to civil society, not only the different sciences.

Volker Doormann said...

Anonymous said...17
"Aus ökonomischer Sicht geht es nicht darum, mit einer Karbonsteuer Gelder einzunehmen, die der Staat dann sinnstiftend wieder verteilen kann.
Die Übertragung der Folgekosten der Verbrennung fossiler Rohstoffe ist eine versteckte Subvention, der Markt ist fehlgesteuert. Dieser Subvention mit Subventionierung Erneuerbarer Energien zu begegnen wie beim EEG ist ökonomisch fast schon absurd.
Was halten Sie von meiner These:
Die Klimawissenschaft rückt immer mehr in den Hintergrund, die Frage des "Wie sollen wir handeln" wird wichtiger, die Ökonomie sollte sich zur Leitdisziplin in der Klimadebatte entfalten.“

your thesis is simple wrong. Economy is the virtue to keep in balance the things you personally get and the things you personally give. If this balance is not kept on that what is yours it is no virtue anymore; it is a beginning of a war, if you take things from others. Politics have betrayed this personal virtue and have started many snowball systems feed by things, which are not owned to the politicians or economists. While some things are owned by persons, there are a lot of things, which are not owned by anybody. But this doesn’t mean that these things are free to capture to take it as your own, or as a property of a nation. Things, which are not owned by anybody, like fresh water, fresh air, the sky, a river, or a fish you can make use of, but you have to give back a value to the society to keep your balance. Your idea of economy is biased by technologies which application conserves the unbalance all over the world. In the end climate science is also the science of the knowledge of wheat prices while ‘Little Ice Ages’, and this is an important knowledge to each person who have to keep his personal economy in balance. Without climate science you are without any knowledge on the coherence of the climate cycles in nature. More than national or international economy ideas it needs a knowledge on the principles of ethics which are the basis of the science of ethics, not to confused with any ethos.

Karl Kuhn said...

Economics is the ultimate contribution to enlightening almost any problem. Because, at the end of the day, all problems boil down to money ... particularly when it is YOUR money!


I was not entirely serious ...

... but still, there is some truth in this.