Today, we present a guest post written by Jeffrey Frankel, Harpel Professor at Harvard’s Kennedy School of Government, and formerly a member of the White House Council of Economic Advisers. A shorter version appeared in Project Syndicate January 17th.
Everyone agrees that Climate Change is one of the top one or two most important policy issues that we face – everyone except some Trump supporters who apparently believe that it is all a hoax. Identifying the problem, however, is not much use unless we also identify the appropriate tools to address the problem.
Financial institutions
In my own field of specialization, central bankers [such as recently departed Bank of England Governor Mark Carney] have caught Climate Change fever. Even the International Monetary Fund and the ECB have declared the global environment to be “mission critical,” under Christine Lagarde.
Financial institutions do indeed need to fundamentally re-think some things. Consider a bank or insurance company calculating risks to real estate loans, for example. It would go seriously wrong to follow the standard methodology by plugging into its formulas the probability of a flood based on data from the last 100 years, rather than estimates of the increasingly elevated probabilities of such disasters entailed in a forward-looking approach.
Central banks and international financial institutions simply are not the agencies with the tools needed to have first-order effects on greenhouse gas emissions, however, or even second-order effects. Maybe not even third-order effects.
What policy tools will have first-order effects? Green New Deal? Solar power?
Green New Deal
Although “Green New Deal” is a catchy bumper-sticker slogan to signal commitment to the issue, I fear that the legislative proposal may do more harm than good. It includes extraneous issues, for example, a federal jobs guarantee. The jobs guarantee is an exercise in shooting oneself in the foot. It takes a lie that opponents have long been telling – the claim that climate change is a hoax that Democrats pursue in order to achieve their “real objective” of expanding the size of the government – and for the first time creates a factual basis for the lie. A sure way of generating votes for Donald Trump .
Technological innovations in areas such as solar power will play a big role in the solution. But a technology is not a policy. Subsidies are a policy. There is a good argument for the government subsidizing research in climate science and relevant technologies.
There is also a good argument for allowing free trade in solar panels, turbines, and other equipment used in renewable energy generation, to lower the cost and thereby expand the share, at no cost to domestic taxpayers. The US and the European Union currently go out of their way to target imports of such equipment, through tariffs and so-called trade remedies.
Raise the price of carbon
In any case, the first-order policies to address climate change lie elsewhere, rather than in subsidizing specific technologies nor in removing trade barriers. As environmental economists never tire of repeating, the only policy by far that comes the closest to achieving environmental targets (such as those in the Paris Agreement), at relatively modest economic costs, is to raise the price of carbon (more precisely, to raise the price of emitting carbon dioxide and other greenhouse gases). If it is true, for example, that solar power or other renewables can meet most of our energy needs at reasonable cost, a high carbon price will incentivize that result. If some other technology or approach is needed to help maximize environmental benefits or minimize economic costs, the carbon price will also reveal that.
Carbon tax vs. cap-and-trade
The price of carbon can be raised via either one of two policies: (1) a carbon tax or (2) cap-and-trade, that is, a system of quantitative emission limits accompanied by trading of the resulting emission permits. Which is the better approach, a tax to raise prices or limits on quantities?
In a simple theoretical world, the two are equivalent: the quantity of carbon permits is calculated carefully, so that the resulting price when they are traded is the same as the price that would be achieved by the tax. In the real world, there are important differences between regulating prices and quantities. The two most important have to do with uncertainty and political economy.
It would be great if policy-makers could commit to a century-long rising path for the carbon price. People could then plan ahead. Firms would then know with certainty the penalty for building long-lived coal-fired power plants. But even assuming a miraculous outburst of multilateral cooperation, today’s leaders cannot bind their successors 50 years into the future. There can be no precise certainty over the future price or quantity. But what is critical is to establish today a credible certainty that the price of carbon will follow a generally rising path in the future. Getting started today can achieve that credibility; neither lofty statements from public officials nor optimal calculations from climate modelers can achieve it.
Predicting political economy is extremely difficult. In the climate change arena, everything is reasonably judged “political impossible,” and would be, even without Donald Trump. Nevertheless, my personal judgment on balance is that, at the global level, countries may be more likely able to agree to quantitative emission targets – the Kyoto Protocol of 1997 and the Paris Agreement of 2015 were two versions of this – than to agree on a global carbon tax. The latter could be considered too great an invasion of sovereignty.
When it comes to implementation at the national level of any global effort to limit carbon emissions, however, I lean toward a carbon tax over emission permits. The history of attempts to implement tradable emission permits, such as Europe’s Emissions Trading System in the case of carbon, shows a political temptation to mollify industry by printing more permits than originally intended and also by giving too many to the legacy firms. The logic is to “make them whole,” but the result can be a windfall gain when the firms sell the permits.
In any case, getting the price of carbon on an upward path, via either a carbon tax or cap-and-trade, is the right tool for the job.
Individual action
What can the individual citizen do? No single individual can expect to solve the problem alone. (How could it be otherwise?) But some individual actions are mainly symbolic or feel-good while other actions can have an effect that is at least proportionate to the number of citizens undertaking them. For a frustrated young person, one piece of advice is clear. While going to a Greta Thunberg-inspired demonstration is fine, registering and voting is critical. If Americans age 18-24 were to turn out and vote in the same proportions as elder voters, that would almost certainly prevent Donald Trump from being re-elected. This calculation allows for the fact that some young voters are Trump supporters, but in lower proportions than their elders. With Trump gone, the US could re-join the Paris Agreement and adopt effective measures; and other countries would lack an excuse that they now have to delay action.
This post written by Jeffrey Frankel.
apparently stevie mnuchin studied economics under rick stryker, since neither seem capable or willing to understand environmental costs in economics.
https://www.cnbc.com/2020/01/23/davos-2020-mnuchin-criticizes-thunberg-says-she-should-study-economics-at-college.html
perhaps rather than lecturing ms thunberg, stevie should educate himself on environmental issues. we are lead by pompous ignorant silver spoons!
As I suggested under another post mnuchin knows nothing about climate policy and perhaps less about monetary policy whereas this young woman gets climate economics a lot better than the court jesters in the Trump White House.
Isn’t he the gut who said the tax cuts were self financing.
He needs to study economics
” If Americans age 18-24 were to turn out and vote in the same proportions as elder voters, that would almost certainly prevent Donald Trump from being re-elected.”
republicans in texas are currently attempting to disenfranchise college students by eliminating on campus voting sites in an attempt to keep college students from impacting local and state elections. it is pathetic behavior from the republicans on this issue. similar campaigns are being conducted in poor minority neighborhoods.
i would think almost any economist would be agreeable to a carbon tax. once a real cost is associated with a resource (or pollutant), then a free market economy will probably find an answer. without a tax, the carbon economy is being subsidized, almost like we are operating in a socialist economy.
This is a reasonable piece except for missing what at least some Green New Deal advoates advocate, which is to ignore the price of carbon and go for command controls on emissions quantities. Of course this can be linked to setting a carbon price by adding trading to this cap, but harder line folks consider this to be a wimpy flop that is even worse than a carbon tax, with the latter not strong enough to do the trick. We need a WW II style command economy in the US to really do the job.
The irony is that supposedly free market US has long favored command and control approach to environmental policies since the early 1970s when most of our environmental regs wee first put in place. At that time lots of economists favored Pigouvian taxes, but these were rejected on the puritanical grounds that it was letting people “pay to sin” or less dramatically “pay to pollute,” with polluting something bad that simply should be forbidden. But of course in practice, with a few exceptions like lead in gasoline, it is impossible to completely stop polluting. So, with some idea of “fairness” in the sense of “everybody does the same thing” specific quantity controls were commanded on individual polluters, even though that was (and is) clearly inefficient. Of course, in 1990, those commands for SO2 got transformed from specific indicidual limits to a nationwide total that then could be traded among polluters, the cap and trade system, which is at least cost effective assuming a functioning market, if not completely efficient, but probably more efficient than the older command controls on each individual polluter, with the latter sort of policy still in place for many pollutants in the US
Carbon tax vs. cap-and-trade
This has been a very hotly debated issue in the economist blogs – in particular in the comment sections, which get a wee bit overheated. Jeff’s discussion of the potential differences are often novel (at least to me) and well worth reading!
In 2012 or 13, the Obama administration hit China with something like a 30% tariff on its solar panels. The Trump administration has placed a 30% tariff on solar panels from all countries. These are acts of economic stupidity. How about those in congress who are concerned about global warming introduce a bill to repeal these tariffs.
It includes extraneous issues, for example, a federal jobs guarantee. The jobs guarantee is an exercise in shooting oneself in the foot.
To be clear, I’m neither a Bernie Bro nor a big AOC style advocate of GND; however, I don’t think a carbon tax is politically feasible without some kind of federal jobs guarantee program. Any effective climate change policy necessarily means putting people…lots of people….out of work….at least temporarily. If we’ve learned anything over the last thirty years of intense globalization it’s that the labor supply curve is very slow to respond to severe shocks. People resist moving to where the new jobs are. People don’t learn new skills at the same rate. People have homes that tie them down. People have spouses and moving to a new location might put the other spouse out of work. People have nearby support networks that inhibit migration. An effective carbon tax will create economic losers and the government has an obligation to provide meaningful work if the private sector can’t. Without that kind of job guarantee any carbon tax will be DOA even without Sen. Mitch “Grim Reaper” McConnell killing the baby in the crib.
There’s an old adage that you need at least as many policy tools as you have policy goals. The policy goal of a carbon tax should be to encourage people and businesses to substitute away from carbon intensive goods and services. If you don’t rebate the carbon tax, then you also create an income effect, which will have an inevitable reaction at the ballot box. So you need to rebate the carbon tax in a progressive way. But you also need to generate new revenues to fund the development of new green technologies. But that’s another policy goal, so you need another policy tool. One policy tool might be higher taxes on the wealthy. Another policy tool might be loose money. You get the idea.
“Any effective climate change policy necessarily means putting people…lots of people….out of work….at least temporarily.” Is it? Let’s say you are right. Then this is an economic argument as much as it is a political argument.
BTW a smart transition to a fossil free economy would find a way to maintain full employment. I think Jeff’s argument is that GND is not that smart way. And bTW – we do not need the left to pass climate smart policies as they already are there. What we need is to convince the center right. Going all AOC would therefore be bad politics as well as questionable economics.
“If you don’t rebate the carbon tax, then you also create an income effect, which will have an inevitable reaction at the ballot box.”
The version of the carbon tax that got all those economists signing onto would rebate the carbon tax in a progressive way. And even Greg Mankiw finally signed onto this proposal.
Average temperatures, especially global average temperatures, are fairly meaningless. Most of the recorded temperature increase has been due to slightly warmer nights, not necessarily more heat waves. A large part of the increase in recorded night temperatures is due to the Urban Heat Island effect (heat sink) as more areas are encompassed by human habitation. Another issue is that these urban areas are encroaching on recording stations that were once rural or isolated locations.
https://www.epa.gov/climate-indicators/climate-change-indicators-high-and-low-temperatures provides a look at the U.S. Why the U.S.? Because there and Europe are the two geographies with reliable records for comparison over time. Other areas such as Africa, the Arctic, and large portions of Asia have no long-term reliable records. Consequently, climatologists have attempted to extrapolate temperatures as best they can from records that are available (and which may not be reliable).
Furthermore, land based records are not necessarily consistent with satellite based records. And all historical records have been adjusted with approximations deemed to be corrections.
While Dr. Frankel is esteemed in economics, creating economic policy on shaky climate science (regardless of how many social scientists and politicians may agree that we are about to die because of CO2) is highly risky and expensive. Of course, the counter argument is “We’ve got to do something even if the outcome is expensive and uncertain.”
Suggested reading: https://judithcurry.com/ or more specifically https://judithcurry.com/?s=historical+global+temperature+records
oh my, bruce is bringing out the old urban heat island zombie again. nasa addresses this issue directly and succinctly
https://climate.nasa.gov/faq/44/can-you-explain-the-urban-heat-island-effect/
“Most of the recorded temperature increase has been due to slightly warmer nights, not necessarily more heat waves. ”
so what? bruce, i think it would help if you were to learn a little about thermodynamics. i know, its science and hard for you to understand, but global climate change is a scientific endeavor, not an op-ed from faux news. you deniers need to come up with much better arguments. i would recommend data and sound analysis.
I think Frankel and many others misunderstand the phrase “Green New Deal”. They think is some sort of government spending program like the New Deal, but for Green stuff. This is backwards.
First and foremost it is a New Deal program, just like FDR’s New Deal, that addresses economic inequality. It also does this in a way the takes into consideration climate and environment issues.
So it is not just a Green program that operates like the New Deal. It is a New Deal program for economic inequality, that also has Green aspects.
The word from Davos was that journalists were awaiting the eagerly anticipated confrontation between the angry child —
and Greta Thunberg.
If financial institutions are mandated to take environmental sustainability into consideration when giving out loans, would that implicitly raise the price of carbon-related relative to non-carbon activities?