Thursday, 17 July 2014

High-profile research suggests the ‘social cost of carbon’ is too low

By Luke Harrington with Catherine Leining

The ‘social cost of carbon’ (SCC) is the estimated cost of the damage caused by each additional tonne of carbon dioxide (or its equivalent) released into the atmosphere.  In practical terms, it tells us how much money we can save from avoided damages when we reduce each tonne of greenhouse gas emissions. 
The SCC is a metric used by governments, researchers, companies and others to guide decision making about how much to invest in reducing greenhouse gas emissions. Last year a US government working group, using three leading economic models, reported a central SCC estimate of US$37 per metric tonne of CO2 in today’s dollars. This fell within a range from US$11 to US$57, depending on the discount rate and with a high-climate-impacts value of US$109 (all for emissions in 2015). The SCC would be expected to rise over time.  Emission prices under the New Zealand Emissions Trading Scheme currently are well below this range.
However, in a paper published on 10 April 2014 in the leading peer-reviewed journal Nature, Professor Richard Revesz from New York University and distinguished co-authors argue that current values reported for the SCC are underestimated, due to inherent assumptions that current climate-economic models make about the time-dependence of future climate change and limited proliferation of economic impacts. The authors of this paper offer four key points to support their hypothesis:
1.     The impacts of historical temperature changes, coupled with increased weather variability, may be higher than current climate models anticipate, particularly considering tipping points where crop yields may rapidly decline above a certain temperature threshold.

2.     The models do not account for damages to labour productivity, productivity growth and the value of capital stock (e.g. infrastructure and buildings), nor do they consider the potential for social conflicts from climate change. These damages could lower annual economic growth rates, not just static economic output, thereby having more significant long-term consequences than are currently accounted for.

3.     The models assume the value attached to ecosystems will remain constant over time. However, it is likely that ecosystem services will, on average, degrade over time with continued warming, suggesting that the costs of future ecosystem damage from climate change will increase at a faster rate than models predict.

4.     The US government’s analysis applies a constant discount rate to express the present value of future economic damages. Other economic analysis suggests it would be more appropriate to apply a declining discount rate over time given the high uncertainty attributed to long-term impacts. A revised approach would instead yield a higher value for an estimated SCC.
The authors also emphasise that the damage functions in these climate-economic models are not calibrated for temperature increases beyond 3°C above pre-industrial levels. Given the RCP8.5 scenario of the latest IPCC report indicates that business-as-usual activity could lead to temperature increases exceeding 4oC by 2100, this uncertainty in modelling damages for extreme scenarios remains a serious knowledge gap. 

While acknowledging the potential for uncounted biases in the other direction, the authors conclude that the SCC is likely underestimated in the US government analysis.  

Despite methodological uncertainties in the precise calculation of the SCC, multiple economic studies (e.g. Stern 2007, Nordhaus 2013) conclude that the long-term economic damages from greenhouse gas emissions would far outweigh the cost of reducing those emissions.  Pricing emissions effectively in the market would help to create efficient economic incentives to reduce emissions and avoid costly climate change damages. 

In this context, it is important to recognise that models used to calculate what level of emission prices will eventually help prevent dangerous climate change assume that global agreements will be complete and efficient. Given that we know such agreements will be incomplete for a long time and policies will be inefficient, we will need higher emission prices when they are eventually applied at broad scale to make up for this efficiency deficit.  This suggests that we would stand to gain in the long term by introducing higher emission prices now.

Improving the estimation of the SCC could help policy makers, researchers, companies and households to better understand the full value of reducing greenhouse gas emissions. Boosting collaborative and interdisciplinary research to improve the design of climate-economic models and broaden agreement on key assumptions represents a critical next step in this process. 

1 comment:

  1. Stanford analysis suggests the SCC, in the US setting, should perhaps be more like US$220/tonne, not $37. Summarised at http://news.stanford.edu/news/2015/january/emissions-social-costs-011215.html

    Note the US National Academies of Science (NAS) in 2010 used a social cost of carbon (SCC) of US$30-$100/ton CO2-equivalents. Roughly adjusting for exchange rate differences and ton/tonne conversions, the social cost of carbon in NZ becomes NZ$36-$120/tonne CO2-eq. The NAS SCC is cited in Epstein http://www.chgeharvard.org/sites/default/files/epstein_full%20cost%20of%20coal.pdf , sourced from the NAS expert consensus report http://www.nap.edu/catalog.php?record_id=12794 summarised at http://dels.nas.edu/resources/static-assets/materials-based-on-reports/reports-in-brief/hidden_costs_of_energy_Final.pdf

    For a SCC in NZ, Government currently is using $40 per tonne CO2 for CO2 emissions already, as used by Land Transport NZ when undertaking its economic analyses for roading. This is described in the NZTA’s Economic Evaluation Manual (EEM), effective from 1 July 2013 http://nzta.govt.nz/resources/economic-evaluation-manual/economic-evaluation-manual/docs/eem-manual.pdf Appendix A9.6,A9.7 (pages 5-402 to 5-403).

    Note this is a 2004 value, hence $50 in 2013 values (using http://www.rbnz.govt.nz/monetary_policy/inflation_calculator/). http://nzta.govt.nz/resources/economic-evaluation-manual/economic-evaluation-manual/index.html describes the EEM further.

    Although the NZTA $40/tonne SCC is arguably low, it is a precedent that is hard to ignore – funding decisions are made, right now, by Govt that uses SCC, methodically. It would have been factored into the benefit:cost ratios for the RONS motorway projects. There can be few technical nor ideological impediments to Govt therefore including, as a start, $40/tonne CO2 emitted across all of its public sector cost benefit analysis – not just road funding. (Ironically, the $40/tonne in the EEM relates to savings from less CO2 emissions through less idling in overcrowded highways etc; however, applying the precedent (ie the SCC being in the EEM already) to other public sector decisions is allowed to be naïve to the underlying intent).

    Using the $40 SCC for CO2 emissions in cost-effectiveness analyses would provide consistency in whole-of-government approaches for central government departments and crown agents http://www.ssc.govt.nz/whole-of-govt-directions-dec2013 , http://www.treasury.govt.nz/publications/guidance/planning/costbenefitanalysis .

    Scott Metcalfe, public health physician

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