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Friday, August 30, 2013

Peter Dorman: More Mental Clutter on Climate Change

by Peter Dorman, Econospeak, August 29, 2013
Certain topics seem to be Sisyphean: you do your best to clarify and then, there it is, the boulder of common sense sitting at the bottom of the hill, demanding to be rolled up once again.  Elementary issues in macropolicy, like the fact that contractionary fiscal policy is contractionary, exemplify this, but so do the basics of climate change.  Here the elements in question are that pricing carbon can go a long way toward avoiding the worst scenarios, that the primary channel is economic substitution, and that good policy pushes out the political limits to action.
Now consider a recent argument that gets all of this wrong.  It comes from Jesse Jenkins of The Energy Collective; I was pointed to it by the usually insightful David Roberts, who in this case misses the boat.  The Cliff Notes version goes like this:

1. Carbon accumulation in the atmosphere is the result of GDP growth and existing technology.

2. We don’t want to cut GDP growth, so the solution is technological innovation, primarily in energy.

3. Carbon pricing itself can’t accomplish this.  The correct price would equal the social cost of carbon (the damage done by emitting an extra ton, monetized), but voters are unwilling to support taxes this high.  This is because such taxes would achieve their purpose only through massive cuts in per capita income (GDP).

4. But modest carbon prices will generate revenue.  This revenue can be channeled by government into R&D.  Just like government-financed research gave us the internet, it can give us the future energy technologies that will put the global economy back within ecological limits.

Almost every detail of this argument is flat-out wrong, and the totality rolls the rock back down the hill and calls it a monument.

Just to give a little more heft to the starting point, read through this excerpt from a letter to the Financial Times by political scientist Roger Pielke Jr., quoted with approval by Jenkins:
Carbon emissions are the product of (a) GDP growth and (b) technologies of energy consumption and production. ... Thus, a “carbon cap” actually means that a government is committing to either a cessation of economic growth or to the systematic advancement of technological innovation in energy systems on a predictable schedule, such that economic growth is not constrained. Because halting economic growth is not an option, in China or anywhere else, and technological innovation does not occur via fiat, there is in practice no such thing as a “carbon cap.”
Where carbon caps have been attempted, clever legislators have used gimmicks such as carbon offsets or set caps unrealistically high so that negative effects on GDP do not result and the unpredictability of energy innovation does not become an issue.
It should thus not come as a surprise that carbon caps have not led to emissions reductions or even limitations anywhere. China will be no different. The sooner that we realize that advances in technology are what will reduce emissions, not arbitrary targets and timetables for reductions, the sooner we can focus our attention on the serious business of energy innovation.
So what’s wrong?
1. Pielke sows confusion with the word “technologies”.  In the standard IPAT decomposition, where Impact equals population times Affluence (GDP per capita) times Technology (impact per unit GDP), technology refers to the technologies in use, due to both how goods are made and what goods we use.  This is the relevant definition for understanding carbon emissions.  It does not mean “everything we currently know about how to produce stuff”, which is how it is sometimes used by economists.  What Pielke is doing is appealing to the logic of the first definition in order to invoke the second.  By a type of verbal illusion, he brings us from a recognition that how we produce stuff is crucial to the claim that everything depends on inventing new ways of doing it.

What he leaves out, of course, is substitution.  Even with existing “technology”, in the sense of everything we currently know, we have quite a bit of scope for producing things differently and changing the mix of what we produce.  We can use fuel-efficient cars rather than guzzlers.  We can teleconference rather than fly people to distant locations for meetings.  We can build wind turbines and the grid needed to support them rather than more coal or oil infrastructure.  There are gobs of opportunities for substitution in a modern economy, and the first purpose of pricing carbon is to make them happen.  This is not speculative.  Countries like the US, which have lower taxes on energy products, have higher energy consumption per unit GDP than countries, like those in continental Europe, that have higher taxes.  There really is a law of demand out there.

2. Innovation responds to prices.  When the price of computer RAM collapsed, software companies started cranking out feature-bloated, RAM-intensive products.  Funny thing about that.  As fossil fuel prices appear to move to higher plateaus, Boeing and Airbus work on more fuel-efficient planes.  No one made them do this; it’s how markets work, for better and worse.  This is not to say that governments can’t speed up the process by subsidizing research that private firms won’t undertake—of course they can.  But we will make a lot more progress a lot faster if carbon is expensive and there are financial incentives to economize on it.

3. The social cost of carbon is a chimera.  There is no way to put a credible price tag on a ton of carbon.  It’s the wrong way to think about what the problem is.  (Insurance is the right way.)  This means you can’t denounce carbon pricing because it fails to achieve some sort of “objectively correct” level.  It’s simply a tool to be used in conjunction with other tools.

4. There are lots of things that can be done by way of regulation to reduce carbon emissions, but most involve inconvenience.  You can force people to change how they build houses or what standards have to be met by appliances, but in practice this means people will have to do things they would not otherwise do.  Sometimes that’s not a problem: people often lack information and will be just as happy doing the regulatory thing as whatever they were doing before.  Quite often it is a problem: you prevent people from doing something they actually prefer doing.  For instance, you can change the parking rules so that people can’t stay more than 15 minutes in a parking space for a large swath of a city.  This will force them to use other modes of transportation but it will piss them off.  Just as there are limits to the acceptability of carbon prices, there are limits to the acceptability of regulations.  You want a mix of measures that pack the most emission reductions within the existing political constraints.   As you back off on one mechanism, like prices, you are more vulnerable to the constraints on the others.

5. And now a word about what determines those constraints.  Yes, the higher the carbon price the less willing people will be to vote for them.  But that constraint can be relaxed by structuring your program to give money back to the citizens in as visible a way as possible.  How much relaxation is not known at this point and may depend on other factors as well, but we need all the relaxation we can get.  That’s why taking carbon revenues and funneling them to businesses to promote R&D is really counterproductive.  (a) Give them back to voters.  (b) Don’t give them to businesses, which will get voters even angrier.

6. In any case, the binding constraint today is not the voter but the CEO.  The business community wants to fob the cost of pricing carbon and substituting other products and methods onto anyone else they can, so what we get are loophole-ridden systems in countries that have carbon pricing and no carbon pricing at all in places like the US.  But that is not about policy design—it’s simply the deep political economic funk we’ve all fallen into.  To do anything else, whether about macroeconomics or the climate, we have to find a way out of post-democracy.

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