policy issues in combating climate change, frederick van der ploeg

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Presentation by Frederick van der Ploeg, "Policy issues in combating climate change"


  • 1. Policy issues in combating climate changeHow to determine optimal trade-off between growth and combating global warming?What is the first-best optimal global climate policy?Time paths for carbon tax and renewable subsidy?Allow for green Ramsey growth IAM with exhaustible fossil fuel and directed technical change (learning by doing in renewable use): Third Way for climate policy.When to abandon fossil fuel and to phase in renewable energy?How much fossil fuel to leave in the crust of the earth (stranded assets)?How much better than business as usual?How well do second-best climate policies fare which rely on renewable subsidy only. Green Paradox?

2. Distinguishing featuresFossil fuel extraction cost increase as less reserves are left, which gives rise to untapped fossil fuel.Price of fossil fuel consists of this cost, the scarcity rent and the carbon tax (set to the social cost of carbon).Renewable energy becomes cheaper as more is used (learning by doing directed technical change). This gives rise to an intermediate phase where renewable and fossil fuel energy are used alongside each other.Social price of renewable energy corresponds to this cost minus a learning-by-doing subsidy.Temporary population boom & ongoing technical progress. 3. MessagesNeed aggressive renewable subsidy to bring renewable energy quickly into use and a gradually rising carbon tax to price and phase out fossil fuel energy.Optimal carbon tax is a fixed proportion of world GDP with log utility, Cobb-Douglas production, 100% depreciation, zero fossil fuel extraction costs, and exponential damages (Golosov et al., 2014) .But relationship between the optimal carbon tax and GDP is hump-shaped with CES production, EIS = 0.5, less than 100% depreciation and more realistic global warming damages.The simple formula for the optimal carbon tax performs badly if it has to address multiple market failures. 4. Carbon cycle20% of carbon emissions stays up forever in the atmosphere and the remaining part has a mean lifetime of 300 years.About half carbon impulse is removed after thirty years.The equilibrium climate sensitivity is set to 3 in line with IPCC (2007), so doubling of carbon stock leads to 3 additional degrees Celsius. Has been revised downwards.Ignores time lag of about 70 years between peak temperature and emissions (Gerlagh and Liski, 2013).Ignores positive feedback: e.g., release of carbon from the ocean floors at higher temperatures 5. Whats left of GDP after damages from warming?Our IAM supposes damages rise quite rapidly!0.70.750.80.850.90.951380580780980Net output after damagesAtmospheric stock of carbon (ppm by vol. CO2)NordhausNordhaus-WeitzmanGolosov et al. 6. A Green Ramsey IAMSocial planner maximizes utilitarian welfare with rate of impatience and intergenerational inequality aversion IIA = 1/E.I.S. = 1/ subject to:capital accumulation driven by what is left of output net of climate damages after depreciation, energy costs and consumption of final goods,accumulation of the permanent and the transient components of the carbon stock,depletion of fossil fuel reserves, andaccumulation of stock of cumulative knowledge in using renewable energy. 7. Efficiency conditionsKeynes-Ramsey rule: the interest rate is the rate of impatience plus the wealth effect higher growth and more inequality aversion imply a higher discount rate and thus a lower social cost of carbon and less stranded assets.Hotelling rule: capital gains on extra barrel in ground must equal return from taking out an extra barrel (interest minus marginal increase in extraction cost). Hence, scarcity rent of depleting an extra barrel of oil is the present value of all future marginal increases in extraction costs resulting from this. 8. Social benefit of using renewable energy and social cost of carbonThe social cost of carbon (SCC) is the present value of all future marginal climate damages resulting from burning an additional ton of carbon. The carbon tax should equal to internalize global warming externalities.The SCC increases if time impatience is less, climate damages impact production more, decay of atmospheric carbon is less and the climate sensitivity is bigger.Social benefit of using an extra unit of renewable energy is the present value of all future reductions in marginal cost of renewable energy. A renewable subsidy ensures this social benefit of learning-by-doing externalities is internalized. 9. Phases, timing & how much reserves to abandonInitial fossil fuel only phase.Intermediate phase joint use of fossil fuel and renewable.Final carbon-free phase: only use renewable energy.Energy price cannot jump at phase switches switch time.Zero scarcity rent and condition that social cost of fossil fuel and energy are same fossil fuel left untapped.Stranded assets thus increase with SCC and decrease with cost of renewable energy and renewable subsidy at that time. 10. A simple formula for the social cost of carbonWith IIA = 1, Cobb-Douglas production, 100% depreciation each decade and no capital needed to extract fossil fuel, the SCC is proportional to world GDP (Golosov et al., 2014):A lower discount rate pushes up the SCC.The optimal ratio of the carbon tax to GDP is independent of technology and the depreciation rate.Does not take account of other market distortions.5112.379100.20.80.393.tGDP 11. CalibrationIntergenerational inequality aversion is 2 > 1.Time impatience is 10%/decade or 0.96%/year.Depreciation of capital is 0.5 per decade or 6.7%/year.Factor substitution elasticity 0.5, capital share 0.35 and energy share 0.06.World population is 6.5 billion in 2010, grows initially at 1% per year and flattens off to a plateau of 8.6 billion.Total factor productivity growth starts at 2% per year and flattens off at 3 times initial level.Fossil fuel extraction costs quadruple if another 2000 GtC is extracted (0.35 divided by fraction of initial reserves that are left so ). 12. Calibration continuedUse initial world GDP (63 $T) to back out initial TFP.Use Nordhaus cost of decarbonising economy (5.6% of GDP) and cost of producing conventional energy (6.4%), through learning by doing this cost can be reduced by 60% to a lower limit of 5% of GDP, and cost of energy drops by 20% in a decade if all energy is renewable.This gives production cost per unit of renewable energy as b(B t) = 0.8 + 1.2 exp(0.008 Bt). 13. Policy simulationsCalibration in line with standard parameters but on upper end of renewable estimates (more available).Solution decade by decade from 2010 to 2600.4 policy scenarios: laissez-faire, only tax, only subsidy, and optimal (solid lines).Colour coding: 14. 01002003004005006007002010206021102160221022602310$trillions (2010)Capital Stock, Kt01234562010206021102160221022602310C (above pre-industrial)Mean Global Temperature, Tt051015202520102060211021602210GtC / yrFossil Fuel Use, Ft051015202530354020102060211021602210GtC / yrRenewable Energy Use, Rt 15. 01002003004005006007008002010206021102160221022602310$ / tCSocial Cost of Carbon, t01002003004005002010206021102160221022602310$ / tCSubsidy for Renewable Energy, t05001000150020002500300020102060211021602210GtCCumulative Emissions0501001502002503003502010206021102160221022602310$ / tCHotelling Rent, st 16. 10002000300040002010206021102160GtCFossil Reserves, St30050070090011002010206021102160$ / tCProduction cost of renewables b(Bt) 17. Global warming, the great transition and stranded assetsThe optimal policy mix combines a carbon tax from 100$/tC in 2010 to 275$/tC in 2050 with a renewable subsidy starting with 160$/tCe, rising rapidly to 380$/tCe in 2030 and then tapering off to zero quicklySo quickly make renewable energy competitive and have a gradually rising carbon tax to price fossil fuel out of the market. This policy limits warming to 2.3C.Under laissez faire temperature rises to 5.3C. Missing markets lead to a transitory capital over-accumulation, inducing severe climate damage and a fall in capital stock. Rising extraction costs drive transition.The optimal transition uses 400 GtC in total, but under laissez faire uses more than 2,500 GtC.No policy welfare loss is 73% of todays global GDP. 18. National second best outcome30 years of climate negotiations have utterly failed. How about national renewable subsidies?Level and duration of subsidy increases compared with first best to compensate for lack of carbon tax.Temperature is limited to 3.70 C and the welfare loss is only 10% of GDP compared to first best.If only a carbon tax is in place, the welfare loss is only 3% of GDP compared to first best.Important to prioritize the carbon tax, but renewable subsidy is not such a bad second-best instrument to avert the worst of global warming. 19. Market price of fossil fuel and renewable ($/tC)200400600800100012002010206021102160221022602310$ / tC 20. Scarcity rents and Green ParadoxOptimal carbon policies and renewable subsidies lower market prices of fossil fuel but increase social prices of fossil fuel, so it becomes less attractive to use them for business. Hotelling rents fall.Under laissez faire the Hotelling rent is very large.With only renewable subsidy, the renewable subsidy depresses fossil fuel use and the Hotelling rent. Without a carbon tax, the market price of fossil energy falls below laissez faire so more fossil fuel is used than under laissez faire (blue line lower than brown line - Green Paradox effect). 21. 123420102060211021602210226023101 / $Social Cost of Carbon / OutputSCC/GDP is not flat, but hump shapedGolosov et al (2014)The carbon tax has to workmuch harder if there is norenewable subsidy in place(red versus green).The simple formula forthe carbon of Golosov etal (2014) under-estimatesoptimal carbon tax. 22. Robustness5 different carbon cycles used by climate scientists and by FUND, PAGE and DICE: SCC not very robust but renewable subsidies are

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