Policy ramp versus big bang: optimal global mitigation policy ESP 165: Climate Policy Michael Springborn Department of Environmental Science & Policy UC Davis

In 2006 the UK released an “Economics of Climate Change” report by Nicholas Stern that sparked debate by calling for much more aggressive action than others AKA: the Stern Review (SR) Sir Nicholas Stern (Nobel Laureate) Adviser to the UK government on the Economics of Climate Change and Development Chair of the Grantham Research Institute on Climate Change and the Environment at the London School of Economics (LSE) since 2008

The SR arrived at estimates of damage from climate change that were much larger than previous studies Tol and Yohe (2006)

The SR used a much lower discount rate than other mainstream economists. The level at any given time t represents the weight given to benefits and costs (affecting consumption) arriving at year t. Discount factor (weight) under various assumptions Discount weight

William Nordhaus is a distinguished economist with significant leadership experience in academia and public policy Faculty member of Yale University since 1967 Nordhaus, W. (2007). “Critical assumptions in the Stern Review on climate change.” Science 317, 201– 202. Nordhaus, W. (2010). Economic aspects of global warming in a post- Copenhagen environment. Proceedings of the National Academy of Sciences 107(26), Critical assumptions in the Stern Review on climate changeEconomic aspects of global warming in a post- Copenhagen environment

Nordhaus expresses the stringency of his policy ramp recommendation vs. the “big bang” by estimating the carbon tax needed to get the targeted mitigation. Nordhaus (2007) Nordhaus policy ramp/DICE baseline “big bang”/Stern assumptions

Nordhaus (2008, p. 174): To set the discount rate Stern was prescriptive (normative), Nordhaus was descriptive (positive).

To set the discount rate Stern was prescriptive, Nordhaus descriptive SR approach—prescriptive/normative –r = ρ + ƞ g = 0.1% + 1*1.3% = 1.4%. ρ: favors a “low” social rate of time preference = 0.1% –Argument: the only ethical reason to discount future generations is that they might not be there at all (e.g. cataclysmic comet) [consistent with Frank Ramsey] –Prob. of extinction: 0.1%/year g: growth rate of consumption ~ 1.3%; ƞ : elasticity of marginal utility of consumption = 1 –(intergenerational) inequality aversion: lower Nordhaus approach--descriptive/positive ρ = 1.5% (assumed, Nordhaus 2008, p. 51) ƞ = 2 (calibrated, given r, ρ and g) –(intergenerational) inequality aversion: higher r = 6.5% in 2015, falls over time to 4.5% in 2095 as g falls (in DICE 2007, Arrow et al. 2012)

The big bang approach is >10 times more stringent than Nordhaus’ policy ramp in the short term. Nordhaus (2007) Nordhaus policy ramp/DICE baseline “big bang”/Stern assumptions

(1-D(A t ))*F E (K t ): Production K t : technological capital stock Consumption: C t U(C t ): utility R(A t ): natural GHG cycling K t+1 = K t + k t A t+1 = A t + a(M t )F t - R(A t ) +R(A t ) GHG emissions k t : Investment t: time A t : GHG stock M t+1 = M t + m t mitigation capital m t : invest in mitig. cap. The economic logic of the policy ramp is that some investment in mitigation capital is good but only up to a point--forgoing investment in technological (and other kinds of) capital is costly Since “capital is productive and damages are far in the future … the highest-return investments today are primarily in tangible, technological, and human capital.” (Nordhaus, 2007) e t : educ./invest in human. cap. E t+1 = E t + e t

While CO2 intensity (tons/$GDP) has fallen, growth in population & GDP have led to rising emissions. (Nordhaus, 2012)