The dismal science and the climate challenge

The Paris summit marked the culmination of decades of climate-related worry, but there was a strange absence of binding commitments – not least because these were seen as a potential limitation to future economic growth. In releasing the now-famous Stern Review, Lord Nicholas Stern said that “climate change is the result of the greatest market failure the world has seen”, by which he meant that the failure of economics to properly incorporate climate-related externalities and send out sound market signals should bear the brunt of the blame for the current environmental state. Surely, when it comes to science and economics there are few bigger or more costly mismatches than that of climate change.

The failure to put a price tag on the environmental effects of industry seems quite spectacular. However, estimating the costs in terms of national product of an increase in the mean temperature of two degrees Celsius is, to say the least, difficult – not to mention the potential “cost” incurred on actual human welfare. Efforts have been made in more specific cases; for example the UN estimated that the potential cost of pesticide-related illnesses in Sub- Saharan Africa could amount to somewhere around $90 billion between 2005 and 2020. Also, the IPCC has tried to make more comprehensive estimates for world GDP, but there is a lack of unanimity. The greatest lack, however, is that of an effort in trying to implement these kinds of concerns more clearly into economic policy.

Economic policy must strive towards creating proper market signals, incorporating environmental concerns into growth accounting. The fact that binding commitments were seen as a potential drag on future growth at the Paris summit is a clear sign of this. Mitigation, as in taking strong action to reduce carbon emissions, must be seen as an investment with the purpose of avoiding the risks that climate change may bring, rather than an unambiguous cost. This is important, since even though efforts being made today are encouraging, they need to be underpinned by the sincere consideration of environmental effects by business and economics.

So, how do we design and implement policy in order to have a shot at eliminating carbon emissions by 2070? It is important that we do not settle for the easy options, such as converting coal-fired power plants to gas-fired power plants and increasing fuel efficiency. We need to fully convert our good intentions to complete decarbonisation, making sure the price of climate change is accounted for in the choices made by consumers and producers alike. We often intuitively expect the burden to be borne solely by the latter, but consumers also need to contribute in putting pressure on markets. However, the easiest way to incorporate the costs of environmental effects in the choices we make is obviously through carbon taxes; and, as our trusty introductory course in microeconomics have taught us, the tax will be paid by either consumer or producer (or both) depending on the price elasticity of demand for the goods in question.

The failure to accurately price the effects of climate change – and make an honest effort at implementing this in economic decision-making – is a failure of astonishing magnitude. To remedy this, we need more accurate models for predicting the costs associated with environmental effects, and we need to implement these by means of taxing climate change.

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