Friday, 17 January 2020

Social Cost of Carbon: final big questions (with help from the birds)

Photo by Francesco Veronesi on Flickr cc by 2.0
by Bronwyn Bruce-Brand, Research Analyst at Motu Economic and Public Policy Research

This is the final in a series of three posts answering key questions about the Social Cost of Carbon (SCC). To help keep you interested, I have inserted some egg-cellent ideas about how we might get SCC to soar.

Ma ngā huruhuru ka rere te manu: It is the feathers that enable the bird to fly.

What has New Zealand done, and how does it compare? 
In New Zealand, the only government application of an SCC that I have identified relates to the transport sector. The New Zealand Transport Agency’s (NZTA) 2018 Economic Evaluation Model (EEM) report, which is used to assess the business cases for transport investments, values CO2 emissions at $65.58 per tonne in 2016 NZD terms.1 This point estimate is based on the Austroads 2012 economic analysis, A Guide to Project Evaluation. In this report designed for Australian project evaluation, the authors state that “estimates are not intended for use in New Zealand.”2 It is also unclear from the Austroads publication what methodology is used to arrive at the cost of carbon, whether it represents the social cost of carbon, and how up-to-date its data sources are.

NZTA goes on to say in its EEM that “the monetary value adopted to reflect the damage costs of carbon dioxide emissions in project evaluations has no relationship to the level of carbon tax that the government might consider as a policy instrument to restrain carbon dioxide emissions.”1 In the New Zealand Emissions Trading Scheme, our current “fixed-price option” (i.e. price ceiling) is $25NZD per tonne of CO2-equivalent. This is expected to change following amendments to be agreed in coming months.

For comparison, the United States has estimated a range of SCC values.3 Nordhaus’ DICE-2013R model produces estimates ranging from a baseline of US$18.60 in 2015 to US$216.40 in 2050 under a 2°C warming limit.4 Nordhaus' most recent work using the DICE-2016R model produces even higher estimates of the SCC, with a baseline price of US$31.20 ranging up to US$1,006.20 under a 2.5° warming limit.5

The wide range of these estimates reflects the presence of two types of uncertainty within the process and these are undoubtedly the biggest challenges facing SCC estimation and application. The first is model uncertainty, that is, uncertainty between different models. The second is structural uncertainty or uncertainty within the model itself. The latter will iteratively improve as our knowledge base improves. It also determines the former uncertainty and whether different models will converge or diverge as more information becomes available.

Finally, Resources for the Future (RFF) and the Environmental Defense Fund, based in the United States, have worked extensively on the SCC and researched estimates that have been used in the past. The table below from an RFF study highlights the differences between estimating an SCC with global damages and benefits and a domestic (US) SCC that considers only US damages and benefits. It also highlights the implications of applying different discount rates.6

The Environmental Defense Fund conducted a survey of economists in this field, in order to establish the level of consensus with respect to climate change risks. They asked about the US$37 SCC estimate produced by the US Government Interagency Working Group in 2013 (this figure estimates the economic damages of a unit of 2015 emissions with a 3% discount rate). Over half of the economists surveyed considered that this estimate was too low.7

Photo by A Sparrow on Flickr cc by 2.0
The lesson here is that the estimates vary widely both within the model applied and across different models.

Bird break: Pīwakawaka (fantail) will follow you down walking tracks, not because they like you but because they snatch up the insects you disturb as you walk. They also feature prominently in Te Ao Māori legend as being responsible for bringing death into the world.

So what next? 
It is clear that an SCC can be a useful tool in the evaluation of climate policy. Despite acknowledged limits, the international modelling capability for the SCC has come a long way from the initial models proposed by Nordhaus in the early 1990s.8 Designing effective climate policy can feel like walking on eggshells, and applying a quantified estimate of economic damages from emissions can provide a useful reference point for determining mitigation ambition. A particular challenge is that the prescriptive estimates better supporting climate justice for future generations are also the most economically challenging for the current generation.

The bottom line is that we cannot afford to continue to ignore the currently externalised costs of climate damages, and we owe it to future generations to apply the best possible range of estimates when making decisions about the value of reducing emissions.

New Zealand could benefit from using SCC thinking when making climate policy decisions. For example, this could help with evaluating the cost-effectiveness of climate change mitigation targets and investments by both the public and private sectors, and with setting appropriate emission price bands for the New Zealand Emissions Trading Scheme. International assessments of the SCC typically focus on CO2 emissions, but in New Zealand there would be merit in assessing the social cost of CO2 and methane individually because of our prominent agricultural sector. Further study and recommendations on a New Zealand SCC could help to inform advice from the new Climate Change Commission and decisions by government.

Photo by Crispin Anderton on Flickr cc by 2.0
After all, a bird in the hand is worth two in the bush.

You made it to the end and for that, I’ll give you one more bird break. Many thanks for your unflappable determination in making it this far.

Bird break: Kororā (Little blue penguin or Fairy penguin) are the smallest species of penguin. They live up to their scientific name ‘Eudyptula’ meaning “good little diver”, as they are excellent pursuit hunters in shallow waters. Scientists think their guano may be helping play a role in keeping the Antarctic cool.9

Note: wherever possible I have referenced the source of information and added further reading. This topic is complex and detailed and I encourage those interested to look further into the fantastic analysis and research done by some of the world’s leading environmental scientists and economists. These sources can be found in the reference list below. 

1. New Zealand Transport Agency (2018) - here.
2. Austroads (2012) - here.
3. Wang, P., Deng, X., Zhou, H., & Yu, S. (2019). Estimates of the social cost of carbon: A review based on meta-analysis. Journal of cleaner production, 209, 1494-1507 - here.
4. Nordhaus, W. (2014). Estimates of the social cost of carbon: concepts and results from the DICE-2013R model and alternative approaches. Journal of the Association of Environmental and Resource Economists, 1(1/2), 273-312 - here.
5. Nordhaus (2016) - here and Resources for the Future Social Cost of Carbon (2019) - here
6. Resources for the Future. Social Cost of Carbon - here
7. Environmental Defence Fund (2015) - here.
8. Nordhaus, W. D. (1991). To slow or not to slow: the economics of the greenhouse effect. The economic journal, 101(407), 920-937 - here.
9. Physicsworld (2018) - here.

The previous blog posts can be found here and here.

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