The Science May Be Settled, But the Economics Isn’t

(Photo: Climate and Ecosystems Change Adaptation Research University Network)

The world’s scientists affirmed last week their increasing certainty—95% confidence—that humans are causing global warming by emitting greenhouse gases.

With human culpability all but certain and the potential for warming by 4.5°C in 100 years, economists can’t decide what should be done about it, or even whether any substantial effort should be undertaken to stop it.

In delivering a keynote address to a large group of economists this summer, Harvard’s Marty Weitzman described climate change as a hellish problem that is pushing the bounds of economics.

A year earlier, addressing an annual meeting of environmental economists, MIT professor Robert Pindyck suggested there was no strong economic argument for costly, stringent policies to halt expected warming. In contrast to the near certainty of climate science predictions, Pindyck said the economics of climate change is not well charted and that the case for aggressive climate policy relies on assumptions not supported by consensus.

Pindyck and Weitzman aren’t “denialists” and they do favor some kind of policy response, as does the veteran economic advisor to Republican Presidents and aspirants, Greg Mankiw, a Harvard colleague of Weitzman who has repeatedly taken to the pages of The New York Times to advocate a carbon tax. But with a humility not common in the profession, economists acknowledge that the cost of even 5°C warming over 100 years is uncertain, and, as Pindyck says, perhaps unknowable for the foreseeable future.

The economic rationale for government policy requires that it generate benefits to society that are likely greater than the costs it imposes. Carbon emission abatement is intended to reduce the likelihood and extent of global warming, providing benefits in the form of avoided future costs. The loss in social welfare due to global warming is difficult to measure in large part because of uncertainty about how humans (and other species) will adapt to stresses imposed by climate change.

Will farm yields inevitably decline as the earth warms, or will new plant breeds be developed to tolerate the changes? Will heat-related deaths increase, or will humans be able to migrate and innovate fast enough to keep up with climate change? If environmental capital declines as other species suffer and ecosystems collapse, can they be substituted by physical and human capital?

Even if the social welfare costs of climate change can be reasonably estimated, they are likely to occur well into the future—100 years from now or more. That means the benefits of any carbon emissions reductions today will not accrue for a long time, while the bill comes due immediately in the form of foregone economic growth.

Because of human impatience, benefits 100 years from now are worth less than benefits accruing today. Even a 2% annual discount rate suggested by market behavior, diminishes the present value of climate policy benefits to a level almost surely exceeded by present value costs. But such a discount rate suggests current generations place virtually no value on benefits accruing in the 23^rd century.

That’s wrong, argues Nicholas Stern, an economist at the London School of Economics, who advocates, instead, that a much smaller discount rate—0.1%—be used to value projects that span many generations. To do otherwise supposes that the welfare of our great-great-great-grandchildren is unimportant to us, or that they are worth less than us.  That may be, Pindyck concedes, while noting that such arguments rest fundamentally on moral grounds not typically the domain of economists.

Even the moral argument is not without critique. With just a 1% real annual rate of growth, global per capita income rises from about $12,000 today to $77,000 by 2200. Even if climate change damages shrink the economy by 13% by 2200, as some have suggested, our distant descendants will be five times richer on average than we are. Are we to sacrifice our relatively modest wealth so they might be six-times richer that us?

And even if we are to value future generations as Stern suggests and morals may dictate, then are we not better off bequeathing them an economy that has grown unencumbered by carbon policy for a century or more? Thereby bestowing upon future generations greater wealth with which to battle climate change using the modern technologies of their time? Perhaps, but economists don’t even speak with unanimity in asserting that carbon regulation will slow the economy. And though they are accustomed to evaluating likely outcomes, most concede that catastrophic and irreversible global warming, possible if improbable, changes everything. An insurance policy against such outcomes may be in order.

The IPCC is due to release a report on the social costs of warming next year. Expect its authors to exhibit less certainty in their results than those who reported on the climate science last week, and don’t expect an economist to soon say, “The economics is settled.”