BFI NewsApr 16, 2014

William Nordhaus Breaks Down the Economic Impact of Climate Change

Global climate change will bring large and costly impacts that touch every area of the economy.

The climate trends are real and measurable, William Nordhaus showed in a series of clear and compelling graphs; the long-term economic impact is harder to gauge. Economists help estimate those costs and consequences, he told a crowd of 120 at “Cocktails and Conversations” on April 16.

In the informal talk, Nordhaus, Sterling Professor of Economics at Yale University and author of two widely used models of the economics of climate change, made the case for using markets to mitigate the problem by putting a price on pollution.

He began with a clear picture of the problem: Carbon dioxide emissions have grown steadily at about 2.6 percent per year since 1900. The trouble is, carbon hangs around in the atmosphere for a century or so. Hence concentrations of CO2 have increased steadily over the last 50 years. And if you look concentrations over 800,000 years, as measured in ice core samples, recent increases are literally off the charts.


Concentration of CO2 in PPM over thousands of years


“Is this a big deal? Yes, it’s a really big deal. The levels are double where they’ve been anytime in the last million years,” Nordhaus said.

Instrument temperature readings for the last half-century show a similar dramatic increase over long-term historical estimates, although for the last decade temperatures have stayed relatively flat, well below the increases predicted by models. That gives comfort to climate deniers, while modelers simply point to noise in the models and other recent periods of sharp temperature increases or decreases.

But the evidence continues to mount, Nordhaus said. Referring to a comprehensive, five-volume climate report released recently, he noted, “ If I had to give summary, I’d tell you the things we thought 20 years ago were going to happen are happening. There are no surprises.  Not everything is exactly as we expected, but we’re seeing change.

Estimating the impact of the observed changes “is the most difficult area to understand and address,” Nordhaus said. “We don’t actually have a good handle on when the impacts will become dangerous.  We’re taking something that might happen 50 years from now and addressing aspects of economy and human life that will change in unknown way.”

And, at the same time, human ingenuity means that individuals and societies will respond and adapt, in ways that are difficult to foresee.

That’s where economists come in, Nordhaus said, building integrated assessment models that meld environmental impact, economic affects, human adaptation, and policy responses.

The impacts are likely to be felt in three key areas:

  • Agriculture, with potentially big declines in food production leading to starvation and population shifts. Models that include farmers’ adaptations suggest that production can actually increase even under global warming.
  • Extinction rates, with projections ranging from 10 to 55 percent of species per century wiped out. “This has stood up to pretty careful scrutiny and is one of the most severe impacts we’ve looked at,” he said.
  • Tipping points and abrupt catastrophic risk, For example, melting of the Greenland ice sheets would raise ocean levels 22 to 23 feet. “High tide would be at my house in New Haven,” Nordhaus said. “I wouldn’t be here.”

In the U.S., COemissions per unit of per output (GDP) has actually been declining steadily for years as we shift to cleaner industries and technologies, but that’s not enough to offset a growing, global problem.

The answer, Nordhaus said, is to use markets to provide incentives to cut carbon emissions. “I think the U.S. should enact a carbon tax. It’s very straightforward,” he said.

The simplest way to do that is with a tax on each good and service proportional to its CO2 content. The tax means everyone pays for their share of environmental damage, while facing powerful incentives to innovate and operate in cleaner, more efficient ways.

“Why do we tax goods like income and capital; why don’t we tax ‘bads’ like carbon?” Nordhaus asked. “We have to make sure have science right on the environmental damage, then put price on it.,” he said. “The big contribution of economics is to build models that actually estimate that.”

Other economic approaches, like cap and trade schemes or subsidies for clean energy are likely to be less effective.  Subsides for ethanol to reduce gasoline use have paradoxically increased CO2 emissions, he said.  Taxing carbon is comparatively simple, and we already have the structures in place to do it. A carbon tax must be harmonized across all industries and nations, with no special deals for fishermen or farmers, he said. And it must be revenue-neutral, replacing other taxes so it won’t cause great economic harm.

He offered estimates showing that to limit global warming to two degrees Centigrade as recommended by the Copenhagen Accord of 2009, the carbon tax would be about $45 per ton of CO2 emitted. “That’s essentially like adding that much to the price of a ton of coal,” he said.

Asked if a successful carbon tax policy would push down emissions so low that tax revenue was insufficient, Nordhaus said, “We should be so lucky. It probably won’t happen in my lifetime, but that’s the whole point.” In that future case, other taxes that had been lowered or eliminated could be restored.

Carbon pricing is a relatively new idea—“something nobody would have thought of or talked about 20 years ago,” Nordhaus said. “The main thing is that we’ve got to get started. The U.S., as the richest and most powerful nation, has to start; it’s ludicrous to think that China or India or Brazil going to do anything if the U.S. does nothing. We don’t have to do it alone, but we have to start.”

Asked about the political viability of adopting such a plan, Nordhaus said  “we came within a whisper of getting a carbon tax” when recent deficit panels were looking for sources of new revenue. It came down to two options—a value added tax and a carbon tax. Policymakers had heard of a VAT tax, so it won, he joked.

“So go around, talk to your friends, tell your friends to talk to their friends, start a chain letter. Maybe next time we have a deficit panel, it will be, ‘Oh yeah, a carbon tax, I’ve heard of that.”

Steven J. Davis