The Economics of Climate Change

The cost of acting vs the cost of doing nothing

The choice for reducing greenhouse gas emissions has often been framed as one of a certain high cost now versus an uncertain cost later. The 2006 review of the economics of climate change by Sir Nicholas Stern, Head of the UK Government Economics Service, framed it very differently. He estimated the cost of reducing greenhouse gases at about 1% of global GDP, and the cost of doing nothing at up to 20% of global GDP. Amory B. Lovins, an energy consultant and CEO of the Rocky Mountain Institute goes further, maintaining that “climate solutions are not costly but profitable, because saving fuel costs less than buying fuel.”

Certainly, many of the initial investments in energy efficiency and new practices will likely turn out to show good returns in the short term. Once all the easy stuff is done, investments will be longer term, but may be even more profitable in the long run. Over the past decade there have been many examples of big-business cutting greenhouse gas emissions while increasing production and profits, including British Petroleum, IBM, British Telecom, and Alcan. Dupont raised production by 20% over the past decade, while cutting energy use 7% and greenhouse gas emissions 72%, saving over two billion dollars.

Carbon trading

Carbon trading schemes assign pollution credits to major industrial sources of greenhouse gas. These credits are meant to constantly dwindle until greenhouse gas emissions targets are met, meanwhile they can be bought and sold by industries. In theory, carbon trading achieves emissions cuts in the most efficient possible way, as each industry decides whether it is more economical to make cuts themselves, or buy the extra credits from another polluter who has made greater emissions cuts than required. The model for carbon trading is the European Union's Emissions Trading Scheme (ETS), which has been operating actively since 2005, and covers about 40% of the EU's total CO2 emissions. The emissions trading scheme has had problems, however, because too many credits were issued by some of the participating countries, resulting in a very low price for emissions credits, and which may lead to problems meeting Kyoto targets. Carbon trading generally occurs in concert with carbon caps, or limits for certain industries, for a "cap and trade" system.

Taxes and incentives

Tax incentives, tax shifting, and carbon taxes are options for making changes in our greenhouse gas emissions. Carbon taxes simply tax fossil fuels proportionate to the amount of CO2 that they produce, which should in theory shift use away from high carbon fuels and towards renewable (zero-carbon) energy. However, more sophisticated tax shifting would go beyond a carbon tax, and would tax wasteful, harmful products more heavily and use this revenue to subsidize beneficial products, making it cheaper and easier to "do the right thing." For example, a Hummer would likely be taxed at the highest rate, while a hybrid electric car might have little or no tax, or even a subsidy on it. This approach could be broadly applied to appliances, lighting, building, transport, etc. to make real changes in personal and societal choices.