The economic benefits of climate change?

Writing about this is definitely outside my comfort zone, so this post should not be seen as something from which others could learn but maybe a way for me to learn via the comments. There have been various claims that there is a net benefit to around 2 degrees of warming, relative to pre-industrial levels. In a recent Wall Street Journal article, Matt Ridley says

Most experts believe that warming of less than 2 degrees Celsius from preindustrial levels will result in no net economic and ecological damage. Therefore, the new report is effectively saying (based on the middle of the range of the IPCC’s emissions scenarios) that there is a better than 50-50 chance that by 2083, the benefits of climate change will still outweigh the harm……

Up to two degrees of warming, these benefits will generally outweigh the harmful effects, such as more extreme weather or rising sea levels, which even the IPCC concedes will be only about 1 to 3 feet during this period.

So, Matt Ridley at least thinks that the benefits of a 2 degrees warming (relative to pre-industrial levels) outweigh the risks. There are, however, plenty of other articles (here and here) suggesting that we shouldn’t be looking forward to a rise of 2 degrees. That even 2 degrees will have a damaging impact.

What I was interested in is if there was any evidence that there could be a net benefit from 2 degrees of warming (relative to pre-industrial levels). In a comment on a recent post, Martin linked to a 2008 paper (actually an ESRI working paper) by Richard Tol called The Economic Impact of Climate Change. The paper is really a review of 13 studies (and 14 estimates) that have considered the economic impacts of climate change. The basic result is shown in the figure below. It shows the percentage change in GDP for increases in global surface temperature (relative to today) of up to 3oC. There is a suggestion that a rise of 1oC (i.e., almost 2oC relative to pre-industrial times) could be beneficial, but anything beyond 2oC (relative to today) seems likely to be detrimental.

A figure showing the various estimates of the economic impact of climate change (Tol 2008).

A figure showing the various estimates of the economic impact of climate change (Tol 2008).

So, maybe this is the evidence that Matt Ridley was referring to, although maybe there is something newer. There are two immediate issues, though. One is that (in 2008 at least) this result appears to depend quite strongly on one study (which turns out to be Tol 2002) that suggests quite a substantial benefit from 1oC degree of extra warming. I’m not suggesting that there is anything wrong with this study, simply that one should be cautious about a result that so strongly depends on one study. The other is that we’ve probably already locked in about 1 degree of extra warming. Whatever we do, we’re likely to get to a temperature 1oC higher than today, so what we should be considering is whether or not we should act to prevent temperatures rising much beyond the 1oC level. The paper appears to actually acknowledge this point, saying

Even if, initially, economic impacts may well be positive, it does not follow that greenhouse gas emissions should be subsidized as the climate responds rather slowly to changes in emissions. The initial impacts cannot be avoided; they are sunk benefits. Impacts start falling at roughly the same time emission control affects climate change (Hitz and Smith, 2004; Tol, 2002b; Tol et al., 2000). The fitted line in Figure 1 suggests that the turning point is at 1.1oC warming, with a standard deviation of 0.6 oC. Even though total impacts of 1-2oC warming may be positive compared to today, incremental impacts are negative.

So, this would suggest that if we were concerned about the economic impact of climate change, then we might want to consider avoiding a warming much in excess of 1 degree (relative to today). I do have the impression that some equate the results from some of these studies as indicating the cost of adapting, and hence argue that if mitigating were to cost more than a few percent of GDP we might as well simply try to adapt. Ignoring the moral aspects of such a view, my understanding is that this is not correct. These studies indicate the percentage change in GDP, which reflects changes in economic activity. A net decrease in GDP does not indicate how much it would cost to adapt, as spending money adapting can still drive economic activity and doesn’t necessarily imply a reduction in GDP. Similarly for mitigating, as far as I can tell at least.

There was another very interesting quote in the paper

The initial benefits are partly because more carbon dioxide in the atmosphere reduces water stress in plants and may make them grow faster (Long et al., 2006). Another reason is that the global economy is concentrated in the temperate zone, where warming reduces heating costs and cold-related health problems. At the same time, the world population is concentrated in the tropics, where the impacts of initial climate change are probably negative.

If I’ve understood this properly, there is a chance that there could be net economic benefit (in terms of GDP/economic activity) but that this would mainly be in the temperate regions where economic activity is concentrated. In the regions where most people live, however, the impact could be negative. This, in my opinion, suggests a remarkable moral dilemma. The countries that have likely contributed most to climate change could actually benefit at the expense of those who’ve contributed least.

Anyway, that’s all I was going to write. As I said, not my area of expertise so feel free to comment and enlighten me and others. As an aside, while writing this I ended up in a rather odd Twitter exchange with Richard Tol. I’ve almost finished reading Joseph Stiglitz’s new book called The Price of Inequality. I’ve found the book very interesting, but have worried that it so gels with my own thinking that I’m essentially suffering from a form of conformation bias. I, hence, asked Richard (via Twitter) if he could recommend another book that might present different economic ideas. This then ended up as a confrontation that I still don’t quite understand. Either Richard thought my question had some hidden meaning (it didn’t) or he thought that my question was irritatingly ill-posed (possibly) or Richard is simply incapable of having a pleasant discussion with anyone who regularly disagrees with him (understandable maybe). I thought I would just add this aside to make it clear that my writing this post at the same time as such a Twitter exchange was entirely co-incidental. Also, in case it wasn’t clear, I found Richard’s 2008 paper quite interesting.

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33 Responses to The economic benefits of climate change?

  1. Martin says:

    I always try to link working papers for points that have subsequently been published properly, so that anybody who might not have access can still read it. For a more recent rendering of the “initial benefit” point, here is the same author as of 2013 with a broader literature survey, containing a similar point:

    http://www.sciencedirect.com/science/article/pii/S0165188913000092

  2. Martin says:

    Btw, and Ridley’s omission is telling, all that talk about initial benefits does not change the fact that SCC is a marginal concept, and that they are very likely positive, and that CO2 emissions should therefore be taxed.

    I shortly thought about your question for different economic POVs. For whatever reasons, the debate has somehow shifted: today, Stiglitz and Krugman and other economists with a rather market-skeptic, socially liberal worldview dominate the discourse (for obvious reasons, I’d say). It’s not a coincidence that market liberals are mostly still quoting Hayek and Friedman. But for what it’s worth, an updated rather marlet-liberal view can be attested with Tyler Cowen (“The Great Stagnation”, “Average is over”, I have not read the latter), and then of course Freakonomics and the (in climate circles, and for a reason) infamous Superfreakonomics by Levitt/Duber.

    Apart from that, all those authors have also written intro and intermediate textbooks, though as textbooks, they rather teach the broad consensus than different perspectives. On an intro level, I only know Mankiw and Stiglitz, and I’d say that Stiglitz may put a bit more weight on caveats of standard economic theory (say, he points out problems with rational choice from the beginning). But then, I have learned with Mankiw more than 10 years ago, and read Stiglitz only for interest two years ago – there have been new editions of Mankiw, so I don’t want to be unfair to him. Anyway, generally speaking, as far as it concerns textbooks, it’s much the same, even if the authors have radically different worldviews (as Stiglitz and Mankiw).

  3. Thanks, I read Freakonomics many years ago. I really enjoyed it when I read it. I wonder if I would feel the same way if I read it again now.

    It seems that Richard Tol’s papers also argue for a carbon tax at a level of around $25/tC, but what was interesting was the suggestion (at least it appeared to be a suggestion) that this be set to stabilise at 625 ppm CO2e, so higher than the 450 (or lower) that many seem to be arguing for. I couldn’t tell though if this was a result of the economic analysis (i.e., the optimal level from an economic perspective) or simply a pragmatic conclusion (we can’t set the carbon tax higher, so this is a realistic level and hence results in this level of stabilisation).

  4. I can remember a similar carbon tax number in a 2009 paper from Tol that Monckton cited to argue against the Australian carbon tax, although I can’t remember how Tol derived this number. Read it a bit too long ago for that, I’d have to read it again.

    But I thought you might find the paper interesting.

  5. Martin says:

    I am not exactly sure where the 2 °C come from. Stopping at a certain CO2 conentration seems extremely difficult to justify from a purely economic POV. As far as I know, it comes from the scientific advisory board of the German government WBGU, which is roughly the PIK (according to Wikipedia, the 2 °C or 450 ppm target has been adopted first by the German Bundesregierung, then by the EU, and finally became UN policy; it has recently served as a point of reference for the IEA in their special report “Redrawing the Energy Map”: http://www.iea.org/publications/freepublications/publication/name,38764,en.html )

    The original report is in German (it’s titled about “A Changing World: Social Contract for a Great Transformation”, it also serves as justification for the Energiewende):

    http://www.wbgu.de/fileadmin/templates/dateien/veroeffentlichungen/hauptgutachten/jg2011/wbgu_jg2011.pdf

    (There are idiosyncracies in the report, as e.g. it also recommends ditching nuclear energy, which certainly does not spring from any literature – especially for stringent emissions targets, where the literature says rather the opposite – and is also not what the IEA concludes.) There might be earlier ideas about the 2 °C targetn but as far as I can see, here it is argued for in the most detailed manner.

    The argument is, as far as I get it, that up to 2 °C warming we have an idea about impact, but beyond we are in potential catastrophe land – sort of a precautionary principle. As I said in another comment, I can understand this argument, and I tend to agree with it. But also, I am not important in the great scheme of things, and ignoring preference parameters (also with regard to risk) of the broader population is a decision that will come back with a vengeance.

  6. Okay, assuming you wanted me to do that, I’ve edited the reference to the PIK out and can delete these later comments if that’s what you wish.

  7. Martin says:

    No no, I just wanted to correct my mistake. There is nothing wrong with having one’s mistakes on record!

  8. Back in again then. Yes, I would normally leave things and then add a correction.

  9. BG says:

    If you are going to reread Freakonomics, you may be interested in perusing:

    http://www.realclimate.org/index.php/archives/2009/10/an-open-letter-to-steve-levitt/

    if you have not done so already.

  10. Thanks. I have read that before and I think that was why Martin referred to Superfreakonomics as infamous.

  11. You’ve summarized the situation well. First, Tol’s paper suggests that 2°C is better than 0°C, but worse than 1°C. That second point is misunderstood by contrarians.

    Second, the paper is outdated. For example, it references earlier work by Chris Hope in which he estimated the social cost of carbon in the single digit dollars per tonne CO2, as I recall. His newer work estimates the social cost of carbon at $100 per tonne.

    Third, as I recall, Tol’s paper disproportionately relies on work by economists with very conservative social cost of carbon estimates (e.g. Tol and Nordhaus), due for example to using very high discount rates.

    “The countries that have likely contributed most to climate change could actually benefit at the expense of those who’ve contributed least. ”

    Correct, that was the finding of Samson et al. (2011), that the countries that have contributed the least the problem are the most vulnerable to climate change impacts.
    http://www.skepticalscience.com/graphics.php?g=15

  12. Martin says:

    Has Chris Hope’s new estimate yet passed peer review?

    Why are Tol and Nordhaus’ estimates “very” conservative, rather than Hope’s estimate ‘very progressive’ (?). What kind of characterisation is that?

  13. Martin says:

    Anyway, the survey linked in the first comment includes Hope’s more recent SCCO2 estimate. I checked with repec, and it has not yet been published (what has been published is a model comparison between PAGE2002 and PAGE09, but that’s not a proper estimate, but contains the same number anyway).

  14. As I said, Tol and Nordhaus use high discount rates, for example.

    Hope (2011): http://www.economics-ejournal.org/economics/discussionpapers/2011-39

  15. Martin says:

    Yes, I see. This is exactly the discussion paper I referred to. And it’s included in Tol 2013. Still, as the overview notes, the modal SCC estimates are much lower than the mean estimates (and it is noted that the discount rate might be the reason fo this). So, if anything, the Hope estimate is “very high”, not the other way round as you’d have it (though this, too, would be a gratuitous characterisation: absent an agreement in the literature, it simply is what it is). I am a bit baffled how you refer to what is essentially a discussion paper as a sort of standard (implicitly, anyway) and thusly dub what is the bulk of estimates not only as “conservative”, but “very conservative”. Tol usually uses a range of discount rates (as he sees, if I recall it correctly, the choice of the discount rate as a political one the literature should not even try to fix), not “high” ones (and I don’t see that the discussion paper you linked says anything the like), which btw is another characterisation that is already based on what you have decided to be “high” (or even “very high” in your other comment). There is not somehow an agreement that “low” discount rates are adequate (and common practice includes discount rates you’d probably see as ultra-high, then, say 7 percent):

    http://ideas.repec.org/p/sus/susewp/5613.html

    (A much shorter an less technical version of this as been published recently)

    So, your characterisations (and I see you use them frequently) seem to reflect nothing but your personal preferences (it’s certainly not the literature).

  16. @Dana
    The discussion is about the total economic impact, rather than the marginal impact. The discount rate plays no role in estimates of the former.

    Nordhaus does not use a particularly high discount rate (when estimating the social cost of carbon). I always show results for a range of discount rates.

  17. @Wotts
    The latest results are here http://ideas.repec.org/p/sus/susewp/6413.html

    As to Stiglitz, you never referred to this particular book. You just mentioned Stiglitz, who is the 5th most prolific economist in the world. I did not read The Price of Inequality because I prefer the young Stiglitz.

  18. Thanks.

    Well, I gathered that you preferred the young Stiglitz as you mentioned exactly that. Ending the discussion at that point (as I think I tried to do, or just thereafter) would have been preferable to continuing as we did but, as I think I also mentioned, at least life is never dull when discussing things with you.

  19. > Tol usually uses a range of discount rates […]

    Are there discount rates in the literature that Tol does not use, Martin?

    When I search for “discount rate” and climate in ze Scholar, it returns more than 35 000 hits.

  20. How do you determine which range to show, Richard?

  21. The authoritative quote in the Tol & alii 2013 seems to be:

    OMB currently requires projects involving intra-generational benefits and costs to be discounted at rates of 3% and 7%. The former is meant to approximate the consumption rate of discount and the latter the real, pretax return on private investment. For regulations with important intergenerational benefits or costs, OMB advises that the analyst “might consider a further sensitivity analysis using a lower but positive discount rate in addition to calculating net benefits using discount rates of 3 and 7 percent” (OMB 2003).

    https://www.sussex.ac.uk/webteam/gateway/file.php?name=wps-56-2013.pdf&site=24

    The Office Management of Budget looks like the 800 pounds Gorilla we might be looking for to insure a more objective gauging of the discount rates than what Dana offered.

  22. Martin says:

    I think he referred to the SCC estimates that popped up in the comment section. However, there the basis was your overview published 2013, so I am not quite sure why he said that it’s “outdated” and refers to an estimate you do, in fact, include.

  23. Martin says:

    Willard,

    First, this is not “Tol and alii”. The only reason Tol pops up as first author in the repec link is that I opened it from his repec page. Actually, he is listed as author number 12, but this is as meaningful as nothing that he is the autor wit the shortest name, because authors are simply ordered alphabetically (or we have a very odd – or un-odd, ho ho – coincidence).

    It’s just the opinions of a panel of economists who see things as different as e.g. Sterner and Nordhaus. The aim, I think, is not to make a definitive statement about what discount rate to use, but to give the policy maker a range of opinions that is present in the actual economic discussion. The point here is, economists simply do not agree on a specific discount rate (as you can see in the paper, and the overall discussion), and absent personal expertise one is in no position to make announcements about what discount rate is “very high” and what resulting SCC estimate is therefore “very conservative”. It is a value judgment, and nothing else, as it does exactly not spring from the literature, but rather from declaring Chris Hope (though, even he does not use this verbiage, to be sure) as the point of reference, for which there are exactly zero reasons.

    I also do not think that the OMB reqirement is authoritative. As the paper mentions, there are different requirements in different countries. You can judge how authoritative the OMB requirement is by noting that the Interagency Working Group on Social Cost of Carbon ignored it, and used 2.5, 3 and 5 percent instead of the required 3, 5 and 7 percent (resulting in an odd episode where the OMB had to guesstimate the estimate down to fullfill its own requirements that had been ignored).

    Btw, the discussion about discount rates goes back at least one hundred years (and in philosophical contexts to antiquity), so you’ll have to specify your search if you want to find something on ze Scholar.

  24. Martin,

    Thank you for your comment.

    > First, this is not “Tol and alii”.

    I have no idea to what “Tol 2013” refers, then. But I stand corrected, and will refer instead to Arrow & alii 2013.

    ***

    > It’s just the opinions of a panel of economists […]

    I think it’s a bit more than that. This kind of mediation effort should be welcome.

    ***

    > I also do not think that the OMB reqirement is authoritative.

    The OMB is an official authority on such matter. So are other institutions. Even if it’s only a local authority, it is still one. A panel of economists, be it so prestigious as to include Richard, simply can’t dismiss that kind of opinion. That the Interagency Working Group on Social Cost of Carbon ignored it does not erase that social fact. It only shows that this authoritative opinion is neither a norm nor a rule. And I’m sure there’s all kind of caveats behind these choices.

    What the OMB says sounds more authoritative to me than what Dana says.

    ***

    > Btw, the discussion about discount rates goes back at least one hundred years (and in philosophical contexts to antiquity), so you’ll have to specify your search if you want to find something on ze Scholar.

    I searched for “discount rates” and “climate”, and I don’t think we can find lots of philosophical discussions on discount rates for climate dating back to Antiquity.

    Perhaps my request was not clear enough: I’d like to know how much work there is on discount rates for climate matters. My surmise was that only a few members in that elite club, for we always hear of the same names. But I’m not an economist, and never played one on TV.

    If Arrow & alii (2013) only talk about what they think, they should say so. If they were less senior in their field, they would have to include a short review of the literature. More than that, they would have to justify why they dismiss everyone else’s work. In any case, I’m not asking for that, but for a short list of what is being done, or at least a reference where I should find this list.

  25. Martin says:

    Willard,

    Tol 2013 refers to the paper in the first comment.

    I don’t quite get your OMB point, but that’s not important.

    For the rest, I wish you good luck in your research.

  26. The InterAgency Working Group uses the official OMB discount rates in their estimates of the social cost of carbon. Those are the rules of US gov’t.

    Arrow et al. argue that OMB should reconsider its discount rates. The Science paper is written so that most can understand, but the references are to a literature that is both technical (Gollier, Weitzman) and empirical (Pizer).

  27. Martin says:

    Thanks for the clarification.

    Are you sure, though, that the Interagency Group follows the OMB? The OMB Circular-4 suggests 7 % as a default, and alternatively 3 % as social discount rate (I don’t know why I thought they also suggest 5 %):

    http://www.whitehouse.gov/sites/default/files/omb/assets/omb/circulars/a004/a-4.pdf

    However, while the Interagency group used the 3 %, they did not use the 7 percent. Perhaps I am getting the context wrong?

  28. @Martin
    The latest IAW uses 3, 5, and 7%, but emphasizes 3%.

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