1 1 The climate policy of an oil producing country – demand-side versus supply-side policies By Taran Fæhn, Cathrine Hagem, Lars Lindholt, Ståle Mæland and Knut Einar Rosendahl, Statistics Norway

2 Main Research Question Given a target for domestic contribution to global emissions reductions – what is the optimal combination of reduced fossil fuel consumption and reduced fossil fuel production?.

3 Motivation Ongoing political debate in Norway – prior to the elections –The role of petroleum extraction in the Norwegian climate policies –Parliament’s ambitious, expensive agreement on domestic demand-side –Why only demand-side? Oil interests against environmental interests –Debate fuelled substantially by our recent reports and media activity! Literature: –Demand side carbon leakage of unilateral climate policies  Increased demand abroad  Bohm, 1993, Markusen et al. (1993; 1995), Rauscher (1997) and Böhringer et al. (2010) –Supply-side carbon leakages  Increased supply abroad  Harstad (2012) shows that the best policy is simply to buy marginal foreign fossil fuel deposits and conserve them (inelastic supply on the margin) –Optimal combinations of supply side versus demand side  Hoel (1994), Golombek et al. (1995)  Demand side versus supply side – Norway, Hagem (1994).

Our contributions Update previous numerical estimates Emission intensities in extraction can vary among countries Imperfect competition Empirical cost assessments of marginal cuts in Norwegian oil production A survey of the fossil fuel market elasticity estimates from the literature

Model: Domestic objective function Maximise welfare (W), subject to the global climate policy target : First order cond.:

Model: The energy market Three fossil fuel markets (oil, coal and gas) Static model –less suitable for existing extraction fields (Hotelling, green paradox) –suitable for new developments, including enhanced oil recovery (EOR) investments Global emissions, E, including extraction emissions: Fossil fuel market equilibria: –Oil market: net Home import = fringe supply abroad + OPEC (dominant producer) - demand abroad –Gas and coal markets:, i = c, g

Leakage rates Reduced oil demand at home reduces oil price and, thus, affects demand abroad for o (>0) and c, g (<0) 7 Reduced oil production increases oil price and, thus, affects supply abroad of oil (>0) and of c,g (<0)

Global emissions effects T = (i) gross (direct) effects + (ii) leakages through oil market + (iii) leakages through gas and coal markets  (iv) effects on domestic extraction emissions  (v) effects on foreign extraction emissions 8 OPEC: Dominant producerOPEC: Competitive producer Supply sideDemand sideSupply sideDemand side (i) Gross emission red1111 (ii) Oil market leakage (iii) Coal/gas market leakage (iv)Domestic extraction (v) Foreign extraction  Net emission red Table 1. 1 unit reduced oil extraction/consumption – net global emission reductions. Benchmark assumptions. Benchmark: elD o po =-0.5, elD g po = elD c po =0.1, elS o po =0.5,  ´= 90/1000  ´= 300,  ´ opec =76

Marginal cost of forgone oil consumption for Norway Climate Cure 2020: tasked to estimate costs of unilateral 2020 ambitions of the Parliament; scenario with new demand side policies only in NETS (assumption: global contribution ambitions) Marginal cost of forgone profits from Norwegian oil extraction Data: Costs of cutting present production in several small, relatively costly fields in decline-phase We assess: fairly representative for 2020

Leakage-adjusted domestic demand-side marginal abatement cost curve and the marginal supply-side abatement cost curve Combine the two and calculate their effects on global emissions when leakages are accounted for The domestic contribution target to global cuts is nearly 6 millt CO2 Demandside from left; supplyside from right. Top of demand side: Only demandside (Klimakur) Top of supply side: Only supply side (cheaper as in Hagem 1994) Intercept: the cost effective combination: Around two thirds of the measures to reduce global emissions should be supply side measures

Policy impacts: tax consumption and production: Demand side policies: Carbon tax rate: 248 USD/t CO2 –Only oil demand cuts –40% of the Climate Cure costs Supply side policies: Oil production tax: 53 USD/barrel(!) –App. half of the oil price –3.4 percent of present domestic oil extraction –50% tax could potentially lead to much larger cuts (if supply side is cheaper than estimated) –Alternatives:  Only tax undeveloped fields  More restrictive concession&exploration policies  Less aggressive recovery ambitions in present fields 11

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13 Conclusions Global emissions will most probably decrease when Norway cuts oil extraction Though many sources of uncertainty, robust conclusion: The lion heart of the cuts should be implemented through supply side policies 2/3 in benchmark Rely on Home country wishes to make unilateral actions Offsets are not feasible or preferred alternatives The objective is to cut global emissions Compared to the costs of demand policies only, costs are cut by 60%

Thank you for your attention Discussion paper: Fæhn, T, C. Hagem, L. Lindholt, S. Mæland, and K.-E. Rosendahl (2013):Climate policies in a fossil fuel producing country Demand versus supply side policies, Discussion papers 747, Statistics Norway 14