Monday, 12 May 2008

Second Generation Climate Change Economics

Thank you for inviting me to talk on the economics of climate change. It will not surprise you that I would like to start with the Stern Review. More specifically I would like to start with this diagram which gives a clear sense of the underlying method by which Stern approaches the economics of climate change.

The approach of mainstream economics as exemplified in the Stern Review

We can follow the argument by working our way down this diagram from page 330 of the Stern Review

Starting at the top the diagram shows a range of probabilities of temperature rises is associated with successive rises of concentration of CO2eq in the atmosphere.

For each increase in temperatures there is a range of impacts - for example on food supply, on water, on ecosystems, extreme weather events etc.

What Stern then does is to argue that for each of these impacts there is a level of costs expressed as a loss of gross world production. His review then compares the cost of mitigation to stabilise at each of the levels of greenhouse gas concentration compared to the (discounted) costs of impacts at that concentration level.

Using this methodology (and a low discount rate) Stern concludes that a 1% mitigation cost of gross world production is worth investing to prevent the loss of 5-20% of gross world production for ever.

In more recent statements Stern has said “We underestimated the risk, we underestimated some of the effects” May 2008. However he defends his costing of mitigation.

Flaws in the Stern Review Approach - non linearities and feedbacks in the climate system

The Stern Review is a massive piece of research and scholarship. However it is flawed in the implicit assumption of “stabilisation levels” - the idea that a stabilised concentration of Greenhouse Gases means a stabilised level of global temperatures. This is outdated climate science.

The current climate science uses system dynamics approaches which are non linear. Climate change appears to be accelerating because positive feedbacks (which amplify or reinforce the process) appears to predominate over negative ones (which would brake or dampen the process). This leads to the conclusion that the climate system can "runaway" with declining possibilities for human intervention and rising costs of mitigation to stop it happening the longer mitigation is delayed.

Positive or self reinforcing Feedbacks

An example of a positive feedback effect is that global warming melts ice, reducing the amount of energy and light reflected back into space so the earth gets warmer. This in turn means that yet more ice melts.

Note that, once started, this continues, feeding on itself, even if CO2 emissions have stopped increasing.

This is why leading climate scientists, like for example, James Hansen, are saying that "The Earth's climate is remarkably sensitive to global forcings. Positive feedbacks predominate. This allows the entire planet to be whipsawed between climate states. Recent greenhouse gas emissions place the Earth perilously close to dramatic climate change that could run out of our control with great dangers for humans and other creatures." James Hansen, Director, NASA Goddard Institute for Space Studies. 18th February 2007

It should be said that there are quite a few positive feedbacks. Another is that of methane, which is a far more powerful greenhouse gas than CO2. Global warming leads to the release of more methane from under the permafrost and from ocean beds but methane is a greenhouse gas so this leads to more global warming. Again, once started this would go on even if CO2 emissions have stopped.

The political suppression of the acceleration feedback message

It should be said that these dangers are not generally recognised and they are not getting the recognition that they deserve. According to an article by Fred Pearce in the New Scientist on 8th March 2007 the latest Intergovernmental Panel on Climate Change Assessment Report's Summary for Policy Makers Report was watered down when governments became involved in writing it.

The preliminary version produced by scientists in April 2006 contained many references to the potential for climate to change faster than expected because of "positive feedbacks" in the climate system. Most of these references were absent from the final version.

Safe greenhouse gas concentration limits dramatically revised

However a PR manipulation doesn't change the facts which is why many climate scientists are saying that we may be already over the safe limit for CO2 in the atmosphere.

For example James Hansen was recently quoted in the Guardian as saying that a safe limit for CO2 in the atmosphere may be 350ppm when we are already at 385ppm and the target of the EU and Stern is effectively 550 ppm. (The Guardian 7th April 2008)

As if this was not bad enough oil and gas depletion makes the situation even worse. Here again governments are in denial about peak oil and gas - although, following the International Energy Agency they do acknowledge problems. However, the evidence of rising energy prices is something everyone is aware of

Peak Oil and Gas makes the situation worse

India, China and other countries are joining Europe, the US and Japan on a fossil fuel powered development path at that point in history when global fossil oil and gas reserves are about one half exhausted – these were the cheap and easy to recover oil and gas reserves. What is left are the expensive to recover oil and gas reserves.

The fact that oil and gas are running out might seem to be a good thing but the currently available substitutes for oil and gas damage the climate.

The unmet demand for oil and gas is spilling over into increased demand for coal, biomass and bio-fuels.

But coal is a much more climate damaging fuel and although there are possible technologies to cope with this - like carbon capture and storage - they are unproven and 20-30 years from generalisation

Using more biomass puts pressure on land use which release soil carbon and speeds de-forestation.

again with negative climate effects.

Two Tasks for Climate Policy

This means that there are two current tasks for climate economic policy

(1) To stop putting CO2 into the atmosphere asap: This requires an effective and equitable mechanism to deliver guaranteed emissions cuts - not forgetting the need to prevent land and forest based emissions.

(2) To take CO2 out of the atmosphere asap: The only effective way to do this is using biomass and photosynthesis - then sequestering the carbon from the biomas.

Let us turn to each of these tasks in turn

Task 1. Reducing emissions asap

A policy for every emission in every context?

There are currently 30 different policy instruments at national policy level in the UK alone. Why? Well consider the dynamic of policy. Fossil fuels are used, directly or indirectly, in almost every aspect of our lives and in a huge range of settings.

One approach is therefore to introduce a policy for every setting and every kind of fuel use. You end up with a cap and trade scheme for large emitters (the EU Emissions Trading Scheme); a trading scheme for smaller emitters (the forthcoming Carbon Reduction Commitment) and then a levies, obligations, funds, codes of good practice, directives, regulations and standards for everywhere else.

The end result is a complicated and ineffective policy mix – which is arguably not adequate for delivering on the forthcoming Climate Act and is resented by everyone because they sense that they are being micromanaged by an interfering government.

The Rebound Effect - the need for a cap to "lock in" CO2 reductions

Making this worse many of such schemes are ineffective because they do not "lock in" their CO2 reduction successes.

e.g. energy saving light bulbs are cheaper to run so they are left on longer; more fuel efficient engines save money which people spend on driving further or taking an extra holiday – taken by air.

The growth imperatives on companies and economies encourages these extra uses for carbon energy – to prevent this requires absolute economy wide-caps to “lock in” the carbon reductions.

Lock in is best achieved upstream rather than downstream

"Lock in" requires an effective carbon cap, ideally for the whole economy and that is best enforced upstream. A reducing carbon cap to “lock in” carbon reductions is best imposed “upstream” on a small number of fossil fuel suppliers rather “downstream” on millions of energy users, usages and settings.

In the UK there are only 10 oil refineries, 4 natural gas terminals, 40 coal mines and 12 coal ports where greenhouse gases are introduced into the economy – this is where carbon control is ideally imposed. The strikers at Grangemouth provided a clue how to reduce carbon coming into the economy. At these places a “permit to sell” scheme could be introduced with the number of permits reduced rapidly year by year.

Despite being the current fashionable idea carbon taxes will never deliver

Unfortunately current policy fashions are turning towards carbon taxes. Although unpopular with the public taxes are well understood and tax enforcement arrangements are already in place so they can be introduced quickly. Proponents of carbon taxes argue that tax Revenue can be recycled to make their impact more equitable and palatable.

The trouble is that the opponents of a carbon tax are already organised whereas the potential beneficiaries of recycled tax revenues are not - which is why, for example in Germany, when there has been a long struggle for ecological taxes, they have not got very far. Indeed if you want to get a sense of the reasons why carbon taxes are never likely to work think of a tax which must be automatically increased every year for decades.

What makes carbon taxes worse is that they cannot deliver a definite result in terms of CO2 reductions. The same tax rate might have quite different effects on carbon emissions in a recession and in a boom. So the need to make constant adjustments would be permanent political football.

How Cap and Share Works

This is the case for Cap and Share which works in this way:

Governments make the selling of fossil fuels from upstream suppliers illegal without a permit for the greenhouse gases of that fuel when burned e.g. at refineries and gas import terminals.

The permits are denominated in the greenhouse gas content that the permitted fuels will emit when they are subsequently burned and the total number are reduced each year

Fossil fuel supplying companies are required to buy the permits.

The money from the permit sales goes to everyone equally which partially protects poorer energy

The European Unions Emissions Trading System

Unfortunately for cap and share proponents the EU has already developed an emissions trading system (ETS).It is not based on these principles.

The ETS is imposed on the largest energy users (power stations, iron and steel blast furnaces etc) – about 900 in the UK and can be described as being "partially downstream".

Most permits to emit are distributed to the main emitters for free – so the companies capture the scarcity value of permits. This is effectively a “pay the polluter” principle.

More auctioning of permits is envisaged in the future so the revenue from permit sales will be captured by governments but note the implication - the right to use the earth's atmosphere is assumed to belong to polluters and/or to governments.

Who Owns the Sky?

Emissions permits are rights to use the atmosphere – they are a resource which gets a scarcity value equal to the carbon price. Current schemes like the ETS assume the carbon scarcity rent should go to polluters or governments - but doesn't it belong to us all? There are important implications as to who gets the scarcity rent.

If the scarcity rent goes to governments the revenue from permits may be spent on anything - for example road building. Indeed there were reports in the Independent last week that the Treasury are hostile to EU suggestions that permit revenues should be ring fenced for climate related projects.

If corporations get the carbon scarcity revenue then, if they use the rent for green purposes, they are likely to spend it on mega project solutions - like nuclear power, or carbon capture and storage. A heavier proportion of the costs of mitigation will be falling on those on low incomes which will exacerbate fuel poverty problems.

The alternative is that the public could get the scarcity rent on a per capita basis: those on low incomes - and the population in general - will then have more resources to spend on getting houses and communities in order – insulation, gardens, local renewable systems...

Hybrid Systems

In the field of realpolitik it seems likely that the ETS is likely to be with us for the time being. However there is nothing to stop cap and share being part of a hybrid arrangement. Thus one can have side by side: EU ETS to cover large fossil fuel users and Cap and Share to cover other emissions. Indeed the Irish Government are considering cap and share as a way of controlling transport and possibly household emissions alongside the EU ETS.

Taking CO2 out of the Atmosphere - The Options and their incentives

Finally, as I said earlier these measures will only stop CO2 increasing in the atmosphere. But the CO2 concentration is already too high so it must be brought down. At the moment the biomass is currently the only cost effective way of taking CO2 out of the atmosphere on a massive long as it doesn't go back there - for example through fire.

Thus the key question is - are there ways in which biomass captured carbon be sequestered long term? The answer is that there are - for example

(1) Burying wood anaerobically or
(2) Pyrolysis - baking biomass (e.g. agri wastes) without oxygen to drive off usable energy gases and chemicals leaving a char carbon residue. The char residue can then be put in soil and appears to be long term stable – and also appears to act as a soil improver and be long term stable.

Of the two it seems to me that the latter is preferable as there economic benefits which incentivise its use - e.g. the energy gases given off during pyrolysis as well as the soil fertility gains.

This concludes my talk - although I would just like to remember at this point my colleague Dr Will Howard, who died recently and who arranged that I come to speak to you.

Links and Further Information to Talk on Climate Economics

The Economics of Climate Change. The Stern Review

Feedback Dynamics and the Acceleration of Climate Change An Update of the Scientific Analysis

Critique of IPCC Report & Introduction to Apollo-Gaia

(YouTube mini-presentation)

Introduces evidence of the 'dumbing down' of the text of the Summary for Policy Makers of the current IPCC Report, followed by an outline of the need for a global response (the Apollo-Gaia Project).

Political Corruption of the IPCC Report?

Analysis of changes in the Final Text of the "Summary for Policy Makers" of the Fourth Assessment Report, WG1: The Physical Science Basis, throws light on the direction in which political and economic interests have influenced the presented scientific material.

Oil and Gas Depletion plus coal and Bio-Mass
Weekly round up of Oil Depletion Analysis Centre

Carbon Capture and Storage and Coal as an energy source

Brian Davey "The Future for Coal Power" Web Essay

Greenpeace Report on Carbon Capture and Storage
"False Hope:Why Carbon Capture and Storage Won't Save the Climate" -

Pressure of Biomass and Biofuels on Climate

Carbon Trading and Carbon Markets

Cap and Share

Use of Biomass to Take CO2 out of the atmosphere
Fritz Scholz and Ulrich Hasse Permanent Wood Sequestration: The Solution to the Global Carbon Dioxide Problem at

Bio-Char to take CO2 out of the atmosphere

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