What Environment Do We Owe Our Descendents?

Felix Salmon goes to watch the Triple-S Team--Stern, Sachs, and Stiglitz--discuss the economics of dealing with global climate change:

felixsalmon.com: a blog about economics and finance, mostly — Stern, Sachs, and Stiglitz on the Economics of Climate Change: And then came the barrage of very good reasons why it makes sense to spend money today for the benefit of future generations. First, from Stern: climate change is a stock-and-flow problem. We need to decrease the flow of carbon into the atmosphere now, in order to reduce the stock of carbon in the atmosphere in future. Once it's there, you can't take it out – in any case, it would be utter foolishness to assume that we might be able to do so at some point in the future. So climate change is irreversible. Once coral reefs die, glaciers melt, and cities drown, they're gone forever, and no amount of future wealth can make up for that....

[T]hink of the world as being made up of two types of capital – physical capital and environmental capital. Since the Industrial Revolution, we've been growing our physical capital at the expense of running down our environmental capital. As a result... we value our environment much more highly now, in real dollar terms, than we did a couple of generations ago. If we continue to grow our physical capital at the expense of our environmental capital, that exchange rate will continue to rise... we'll find that the cost of that wealth, in terms of spent environmental capital, will be seen to have been excessive. Environmental capital might be expensive now, but it will also never again be cheaper than it is today....

Sachs had another take. There's no reason, he said, that spending $400 billion now means that we should reduce our consumption by $400 billion.... "The future would rather have abatement capital than non-abatement capital," he said, adding that you can finance expenditure out of savings rather than consumption through the application of fiscal policy. "We are stewards of the future," said Sachs – future generations aren't around to speak to us, so we have to act on their behalf. "And they want less capital and a better climate."

Then Stiglitz stepped in, to introduce the distinction between social return and financial return. Not everything, he said, could be measured with GDP-per-capita figures.

And finally, my own answer to my own question, which is that the $400 billion cost will not be borne by all present citizens equally – it will be borne much more by the rich, who are the major consumers of energy. If you compare the wealth of the rich today to the wealth of future generations in general tomorrow, then the increase looks much smaller.

Jason Furman says that the best thing he has seen on this is Marty Weitzman (2007), "The Stern Review of the Economics of Global Climate Change," forthcoming in the Journal of Economic Literature http://www.economics.harvard.edu/faculty/Weitzman/papers/JELSternReport.pdf. I agree: Weitzman's paper is superb. My only disagreement is that Weitzman seems a little too agnostic in the arguments he derives from his observation that:

something fundamental is amiss in the paradigm framework for pricing assets and deriving the rates of return that we are relying upon to produce discount rates for evaluating new investment opportunities...

I think we are pretty certain why the configuration of asset prices does not match our economists' intuitions about what asset prices should be in a world of well-functioning markets given our estimates of preferences and technologies. It doesn't match because our financial markets are not well-functioning. They do a lousy job of mobilizing the risk-bearing capacity of society. And they appear to be profoundly myopic in the sense that average opinion has a hard time peering into the future when calculating what average opinion expects average opinion to be. As I result, I think, we shouldn't be surprised that there are asset pricing puzzles out there (see http://delong.typepad.com/pdf/20070412_JEP_EP.pdf). And we shouldn't take those puzzles to disable our ability to think long-term aboutr issues like global warming.

On the other hand, this from Weitzman seems to me to be completely right:

To its great credit the Review supports very strongly the politically-unpalatable idea, which no politician planning to remain in office anywhere wants to hear, that the world needs desperately to start confronting the expensive reality that burning carbon has a significant externality cost that ought to be taken into account by being charged full freight for doing it. (This should have been, but of course was not, the most central "inconvenient truth" of all in Al Gore's tale about inconvenient climate-change truths.) As the Review puts it,"ìestablishing a carbon price, through tax, trading, or regulation, is an essential foundation for climate-change policy." One can only wish that U.S. political leaders might have the wisdom to understand and the courage to act upon the breathtakingly-simple vision that a carbon price reflecting social costs (whether imposed directly through taxes or indirectly via tradable permits) could do much more to unleash the decentralized power of greedy, self seeking, capitalistic American inventive genius on the problem of developing economically-efficient carbon-avoiding alternative technologies than all of the command-and- control schemes and patchwork subsidies making the rounds in Washington these days...

Comments

[kharris]

"...they appear to be profoundly myopic in the sense that average opinion has a hard time peering into the future when calculating what average opinion expects average opinion to be." Wow, I wish I could write like that.

Meanwhile, it is pretty clear that the human perception of risk is primative, growing out of an evolutionary history in which getting eaten, drowning, freezing and running out of food were the big problems. When dealing with pollution, global warming and the like, our primative response may dismiss the real risks. There is nothing russling in the bushes to fight or from which to flee, so we don't readily perceive risk. We aren't scared enough. We need to rely on our smarts, not our emotions, to assess risk and that isn't what we are programmed to do.

Just the opposite problem pops up when dealing with disaffection with the US outside our borders. The emotional response tends to be "fight" but that does not reduce disaffection with the US.

[Robert]

Why not Wyoming ?

How about combining Sachs's insight that the trade-off is CO2 control or capital formation for future generations and not the consumption of the present generation vs the well being of future generations and everyone's insight that there should be a carbon tax. It's easy really. Tax carbon and refund somewhat more than all of the revenues. Sachs says the key is deficit spending. What politician ever said no both to deficit spending and to Monica Lewinsky (sorry Monica needed to avoid an obvious counter example).

Carbon tax and compensation designed so that even most people who have a long commute to work are better off. Say make the program so that it is a push for the average resident of Wyoming (or maybe Alaska).

"We can't ask Wyoming to pay to save Delaware from the Atlantic so let's introduce a program with short run benefits for Wyoming too" is the sort of argument that every pandering pol must love.

[Robert]

You know another advantage is that you don't need a lock box to keep Republicans from stealing the low C02 air from future generations. I mean just sticking to Al Gore's talking points.

[Jonathan Goldberg]

I happen to have read Weitzman's paper and, although my opinion is worth much less than Brad's, I too loved it.

One (I think, important) message I took home is that current models don't include an insurance component. That is, part of the justification for spending now to abate carbon, rather than letting the hypothetically richer future do it, is to protect against catastrophic scenarios which result in the future being much poorer than we project them to be, or even poorer than we are.

Weitzman made the point that in the absence of an explicit term for insurance in Stern's (and others') model(s) that justification gets crammed into the discount rate.

I also note in this context kharris's point about risk perception. One of the known flaws in naive risk perception is that it does not give enough weight to improbable but disastrous possibilities.

Weitzman does not suggest how to model this, however.

[Jonathan Goldberg]

I happen to have read Weitzman's paper and, although my opinion is worth much less than Brad's, I too loved it.

One (I think, important) message I took home is that current models don't include an insurance component. That is, part of the justification for spending now to abate carbon, rather than letting the hypothetically richer future do it, is to protect against catastrophic scenarios which result in the future being much poorer than we project them to be, or even poorer than we are.

Weitzman made the point that in the absence of an explicit term for insurance in Stern's (and others') model(s) that justification gets crammed into the discount rate.

I also note in this context kharris's point about risk perception. One of the known flaws in naive risk perception is that it does not give enough weight to improbable but disastrous possibilities.

Weitzman does not suggest how to model this, however.

[NeilS]

"...Once coral reefs die, glaciers melt, and cities drown, they're gone forever,..."

Not really forever. Just for thousands of years.

btw As long as we continue to burn fossil fuels, atmospheric CO2 will increase. Slowing the rate will not get rid of the problem, only delay the consequences. We must find an alternative energy source if we want to reduce current atmospheric CO2 levels.

[Jonathan Goldberg]

Sorry about the double post. Safari told me the first one was lost.

[bigTom]

I think that the costs of avoiding emmisions are very difficult to pin down. IMNSHO there exists within the US economy a lot of unrealized energy efficiency improvements, that firms/consumers just haven't been motivated (or knowledgeable enough) to look for. Likewise in areas like alternative energy, we can't model the potential for breakthroughs that might significantly reduce costs.

Take a look at:
http://www.csmonitor.com/2007/0417/p01s02-wogi.html
and you can see that at least on a regional basis scarcity of water may have a significant effect on the cost of fossil fuel generated power.

[Douglas Knight]

"Once it's there, you can't take it out – in any case, it would be utter foolishness to assume that we might be able to do so at some point in the future."

While it's true that coral reef destruction is irreversible, the above is nonsense. There are plenty of ways to get CO2 out of the atmosphere, if we really wanted to. They don't look cost-effective at the moment. Yes, it's foolish to assume that a particular technology will be developed, but it's even more foolish to claim that the most likely scenario is that technology grinds to a halt, the assumption of virtually everyone writing about the future.

I was really impressed by Gore offering a prize for methods to get CO2 out of the atmosphere.

"Since the Industrial Revolution, we've been growing our physical capital at the expense of running down our environmental capital."

That's also false. The environment in industrialized countries is much, much better than during industrialization.

[Douglas Knight]

"Once it's there, you can't take it out – in any case, it would be utter foolishness to assume that we might be able to do so at some point in the future."

While it's true that coral reef destruction is irreversible, the above is nonsense. There are plenty of ways to get CO2 out of the atmosphere, if we really wanted to. They don't look cost-effective at the moment. Yes, it's foolish to assume that a particular technology will be developed, but it's even more foolish to claim that the most likely scenario is that technology grinds to a halt, the assumption of virtually everyone writing about the future.

I was really impressed by Gore offering a prize for methods to get CO2 out of the atmosphere.

"Since the Industrial Revolution, we've been growing our physical capital at the expense of running down our environmental capital."

That's also false. The environment in industrialized countries is much, much better than during industrialization.

[crack]

Pricing externalities applies to more than carbon. RFK Jr.'s great line 'You show me a polluter; I'll show you a subsidy.'

[NeilS]

"..The environment in industrialized countries is much, much better than during industrialization."

However, the environment in preindustrial countries was much better than in industrial and post industrial countries.

[Matt]

I skimmed the Stern paper and will read it in detail tonight. His essential argument, in semantics I understand, is that the futures property markets do not factor in climate change. Partly true, except that insurance premiums are rising along the south and east coast. Insurance companiies are predicting out 50 years, not bad.

There is an opposing set of predictors that suggest the center of the North American economy will be somewhat north of the Canadian line. I thinks these predictors will correct as we discover the storm intensities increase in severity the farther north we migrate. But if these predictors do not correct, then Central America will be undercounted in the market vote about how far north we should migrate.

We need to get all of North America in on the discussion. Then we can vote fairly about where we want the ice line.

[Lee A. Arnold]

"The environment in industrialized countries is much, much better than during industrialization." --Must be writing about sewage treatment, point-source air pollution and some forms of water pollution, because in most other categories it looks like a loss.

[bigTom]

Matt,

A large part of the insurance rate changes for coastal areas is likely to be due to a reassement of current hurricane vulnerability, i.e. due primarily to medium term (10-50 year) storm cycles, Atlantic hurricane risk had been seriously underestimated. Of course the insurance co's do anticipate substantial
GW costs. But to extent that the industry thinks future price adjustments will be acceptable, these likely don't affect current rates too much.

[kharris]

In the narrow sense of CO2 levels, it is true that we have traded "we've been growing our physical capital at the expense of running down our environmental capital." As Lee points out, that is probably true of other things, as well. There is no one measure of environmental quality, so arguing about when it was better is unlikely to get us very far. We need to refine our discussion beyond gross terms.

[Lee A. Arnold]

From the Wikipedia entry on Vaclav Klaus, President of the Czech Republic:

"Klaus is a global warming skeptic who considers the warnings about anthropogenic global warming to be a fatal mistake of the present era. 'Global warming is a false myth and every serious person and scientist says so.' "

Neil Craig: "we are quite obviously not going through any sort of environmental collapse." But Neil, a real problem with the present kinds of environmental danger is that they are in fact "not obvious:"

-- Land area clearance and fragmentation, to the brink of a wildlife species extinction. Certain species have massive declines in population numbers already: such as birds (90% reduction in 100 years,) amphibians (30 to 70% reductions even in protected areas,) now even bees (vital for pollination of both agriculture and wildlife areas.)

-- Groundwater tables falling on every continent. Even mild climate change is expected to bring big dislocations in freshwater availability.

-- Human bodies contain around 300 new synthetic chemicals with no prior testing for long-term or synergetic effects. This stuff is throughout consumer products. No explanations yet for these rate increases: in asthma, autism, some rare and childhood cancers. Male sperm counts falling.

-- Increases in small-particle air pollution, making residence in urban areas equivalent to smoking cigarettes.

-- Nitrogen deposition from fertilizers and combustion, causing chemical changes in earth and water, affecting soil chemistry and creating huge coastal dead-zones where fish cannot live.

-- And now, we have pushed the atmospheric carbon-sink to the point where stabilizing it is the smarter economic and ecological thing to do. Read the Stern Report. And read the IPCC 4th Assessment when it is released later this year.

This "short list" goes on much further...

But -- they are NOT immediately visible to the fellow in the street, in the way that large-particulate air pollution was visible. So, "not obvious."

[Douglas Knight]

Lee A. Arnold,
Is your list in your second post the "most other categories it looks like a loss" you mentioned in the first post?

kharris,
My impression is that the health costs of industrial revolution air pollution dwarf other problems by orders of magnitude, to the extent that you can make unambiguous health comparisons. There are other values than health, but in this context they do not impress me.

NeilS,
Yes, pre-industrial environments were better than modern environments. Quite apart from that, I think we should do better.

[archer]

The post and these comments are great. Just a a small addition and a big plea. Martin Wolf, the Financial Times' lead economics writer, highlighted the issue of insurance shortly after the Stern Report came out. He felt the DCF approach was the wrong paradigm for this issue.

Brad's comment about markets not being "well-fuctioning" is key and not made with anywhere enough frequency. I have worked in markets for a good bit of my career (at Goldman, later starting up a business for a foreign bank, then consulting to derivatives traders and hedge funds, among others). Most of what people write about markets is rot, and most of the people who advocate markets have never been within hailing distance of one. A lot of conditions have to be in place for a market to function reasonably well (and heresy of heresies, that usually means regulation) and even then they can typically be gamed, which distorts any utility they have for public policy purposes.

So Brad, please, more on that theme. The free market orthodoxy is poisinous. Markets do have certain virtues, but they are no panacea.

[Lee A. Arnold]

Douglas Knight, no, not by a long shot. But I apologize, because "categories" is the wrong word.

The categories should be something like: (A) Biogeochemical-cycle changes of all kinds (water, air, soil.) (B) Wildlife effects of all kinds (on land, and in rivers, lakes, and oceans.) (C) New chemical additives and pollution, (many of which are probably not dangerous.)

C need not be a problem. But, from the US government's own reports (e.g. GAO on the FDA, last year) many or most things are not properly tested. Private corporations have almost entirely captured the regulatory agencies, snookered the science, and successfully lobbied to absolve themselves of most subsequent liability. Out of the tens of thousands of synthetic chemicals which are in consumer goods and packaging, there are probably a few dozen out there which are ubiquitous, harmful, and should be withdrawn. At least, that has been the experience of industrial civilization to-date.

On the other hand, I believe almost anything falling under A and B will ultimately become disastrous, although perhaps not to the continuance of an emotionally perverse, intellectually inept, and morally shameful human existence.

[Cola Vaughan]

Re: insurance actuarial calculations, the east coast, global warming.

I own a home on the northern Outer Banks of NC; structurally valued at $259.500.00

the wind premium ( This is for wind damage alone.... and we have never had a wind claim in 23 years ) for 2007 is $2,698.00; about a 400% increase since 2000. ( a new roof would cost @ $10,000.00 )

The strongest sustained wind in this area accurately measured in history was the Great Hurricane of 1938, @ 93 mph. This is basically a strong category 2. Recently Hurricane Isabel in 2005 had sustained winds of @ 85. I can see from my deck the location ( imaginary as it is ) of the 36th degree of latitude. There has never been a tropical storm to cross that line ( wherever in the Atlantic ) as more than a very minimal/debatable Cat 3 storm.

I'd say either the insurance companies are calculating a substantive change of a historical nature ( there have been regular "scientific" measurements and records of storms and barometric pressures since the late 19th century ) or the insurance companies are being allowed ( by various States regulatory boards ) a "buffer' zone.. casting their nets wider than is strictly necessary.. in order to "spread the pain" and therefore lessen the direct impact.

[JonF]

Re: I'd say either the insurance companies are calculating a substantive change of a historical nature ( there have been regular "scientific" measurements and records of storms and barometric pressures since the late 19th century ) or the insurance companies are being allowed ( by various States regulatory boards ) a "buffer' zone.. casting their nets wider than is strictly necessary.. in order to "spread the pain" and therefore lessen the direct impact.

Or the insurance companies are simply gouging their customers and paying off the politicians to look the other way. Here in Florida we took a real beating in 2004-05, but the increase in insurance premiums has been extraordinarily disproportionate to the admittedly major losses the companies suffered. So I suspect the Urge to Gouge is at work here. (Insurance companies after all are no more gifted with precognition than the rest of us)

[Matt]

Try this angle.

Ask what year and what temp do you want. Then create an optimum damping curve on temp.

Then do the numbers. What percent rent do you want for infinite term damages? Percent damage vs temp.

What was the cost of conversion?

In phases, we know that if we want this temp in 75 years, then we will have to drop CO2 lower than long term, and sooner?

Temp will get higher, even with optimum damping, so your intermediate costs go up.

Work it from the destination back.

[Luke Lea]

I would feel better about this whole debate if the straight-forward arguments of Lomborg and Lindzen were actually addressed, in a straight-forward manner, by the most eminient representatives (who are they, by the way?) of the global warming consensus.

[Douglas Knight]

Luke Lea,
What are you talking about? The Stern report is a direct response to Lomborg.

That is, as far as I understand, Lomborg accepts IPCC, but replies with the Robert Lucas line "once you start thinking about exponential growth, it's hard to think about anything else." The Stern report is about how exponential growth doesn't always win.