I thought I would advertise a post by Steve Keen, that may be of interest to some of my regular readers. It’s about Neoclassical Economics of Climate Change and is extremely criticial of the assumptions used to drive Integrated Assessment Models (IAMs). I’ve written about these a number of times myself, and have also been rather critical.
For example, IAMs don’t self-consistently model the evolution of our economies. They typically assume our economies continue growing and then estimate – using a pre-defined damage function – how much damage is done by climate change. Additionally, even though the damage functions are non-linear, they still produce modest levels of damage even for large changes in global temperature. For example, this paper points out that the damage function in DICE (William Nordhaus’s model) estimates damage due to climate change at 4.7% of world output at 6oC of warming, and that it would only halve world output at 19oC. In a sense, these models would conclude that the impact of climate change is modest, by construction.
On a similar note, in a recent paper, William Nordhaus (who won the Nobel Memorial Prize in Economics) estimated that the economically optimal pathway would lead to 3.5oC of warming (with an standard deviation of 0.75oC). So, a level of warming that many scientists would regard as potentially leading to catastrophic impacts is optimal, according to an economic model.
Steve Keen’s post highlights a few other things that I hadn’t entirely appreciated. It seems that these models don’t take into account how inter-connected our economies are. They seem to assume that there will be some activities that will be largely unaffected by climate change, and that the economic impact of climate change depends largely on the economic value of the activities that are directly impacted. But if climate change severely damages agriculture, it’s not just the agriculture sector that will be adversely affected. If climate change severely impacts regions of the world that aren’t particularly wealthy (as seems likely) it’s not only these regions that will be adversely affected.
Something else I hadn’t appreciated is that the damage function used in IAMs is calibrated by considering how economic activity today varies with temperature. In other words, how economic activity varies with climate now, is used to estimate how global warming will impact economic activity. It may be a reasonable first guess, but global warming doesn’t simply mean that as a region warms it will simply become equivalent to a similarly warm region today. Not only is this clearly too simplistic, there are also many other impacts. You might think that economists clearly don’t hold such simplistic views, but Steve Keen’s post reminded me that we’d engaged in a discussion with Richard Tol in which he appeared to express exactly this view.
Anyway, I’ve already said too much. I encourage people to read Steve’s post. I’ve put another link below, plus links to some other articles that may also be relevant. I should also probably clarify that there are two quite distinct types of IAMs. There are some that are used to actually model the evolution of energy systems, and others that are used to do cost-benefit analyses. The criticisms discussed above refer to the latter, rather than the former. I’m also not an expert at this, so if I do misunderstand how these models work, I’m more than happy to be corrected.
The Appallingly Bad Neoclassical Economics of Climate Change – Steve Keen’s post about IAMs.
IAMs – other posts I’ve written about IAMs.
Fat tails, exponents, extreme uncertainty: Simulating catastrophe in DICE – paper by Ackerman, Stanton and Bueno about the DICE damage function.
Projections and Uncertainties About Climate Change in an Era of Minimal Climate Policies – William Nordhaus’s paper suggesting that the optimal pathway would lead to about 3.5oC of warming.
Limitations of integrated assessment models of climate change – paper by Ackerman et al.
Climate Change Policy: What Do the Models Tell Us? – paper by Robert Pindyck suggesting that IAMs have fundamental flaws.