In December 2015, countries from around the world met in Paris at the United Nations Intergovernmental Panel on Climate Change (IPCC). The key element of the resulting Paris Agreement was to keep ‘global temperature rise this century well below 2 degrees Celsius above pre-industrial levels and to pursue efforts to limit the temperature increase even further to 1.5 degrees Celsius.’ At the same time it was agreed that the IPCC would conduct an analysis of what would need to be done to limit global warming to 1.5°C. The IPPC has just published its report.
The report, based on more than 6000 scientific studies, has been compiled by more than 80 of the world’s top climate scientists. It states that, with no additional action to mitigate climate change beyond that committed in the Paris Agreement, global temperatures are likely to rise to the 1.5°C point somewhere between 2030 and 2040 and then continue rising above that, reaching 3°C by the end of the century.
According to the report, the effects we are already seeing will accelerate. Sea levels will rise as land ice caps and glaciers melt, threatening low lying coastal areas; droughts and floods will become more severe; hurricanes and cyclones will become stronger; the habits of many animals will become degraded and species will become extinct; more coral reefs will die and fish species disappear; more land will become uninhabitable; more displacement and migration will take place, leading to political tensions and worse.
The problem of greenhouse gas emissions and global warming is a classic case of the tragedy of the commons. This is where people overuse common resources, such as open grazing land, fishing grounds, or, in this case, the atmosphere as a dump for emissions. They do so because there is little, if any, direct short-term cost to themselves. Instead, the bulk of the cost is borne by others – especially in the future.
There is another related tragedy, which has been dubbed the ‘tragedy of incumbents’. This is a political problem where people in power want to retain that power and do so by appealing to short-term selfish interests. The Trump administration lauds the use of energy as helping to drive the US economy and make people better off. To paraphrase Donald Trump ‘Climate change may be happening, but, hey, let’s not beat ourselves up about it and wear hair shirts. What we do will have little or no effect compared with what’s happening in China and India. The USA is much better off with a strong automobile, oil and power sector.’
What’s to be done?
According to the IPCC report, if warming is not to exceed 1.5℃, greenhouse gas emissions must be reduced by 45% by 2030 and by 100% by around 2050. But is this achievable?
The commitments made in the Paris Agreement will not be nearly enough to achieve these reductions. There needs to be a massive movement away from fossil fuels, with between 70% and 85% of global electricity production being from renewables by 2050. There needs to be huge investment in green technology for power generation, transport and industrial production.
In addition, the report recommends investing in atmospheric carbon extraction technologies. Other policies to reduce carbon include massive reforestation.
Both these types of policies involve governments taking action, whether through increased carbon taxes on either producers or consumer or both, or through increased subsidies for renewables and other alternatives, or through the use of cap and trade with emissions allocations (either given by government or sold at auction) and carbon trading, or through the use of regulation to prohibit or limit behaviour that leads to emissions. The issue, of course, is whether governments have the will to do anything. Some governments do, but with the election of populist leaders, such as President Trump in the USA, and probably Jair Bolsonaro in Brazil, and with sceptical governments in other countries, such as Australia, this puts even more onus on other governments.
Another avenue is a change in people’s attitudes, which may be influenced by education, governments, pressure groups, news media, etc. For example, if people could be persuaded to eat less meat, drive less (for example, by taking public transport, walking, cycling, car sharing or living nearer to their work), go on fewer holidays, heat their houses less, move to smaller homes, install better insulation, etc., these would all reduce greenhouse gas emissions.
Finally, there is the hope that the market may provide part of the solution. The cost of generating electricity from renewables is coming down and is becoming increasingly competitive with electricity generated from fossil fuels. Electric cars are coming down in price as battery technology develops; also, battery capacity is increasing and recharging is becoming quicker, helping encourage the switch from petrol and diesel cars to electric and hybrid cars. At the same time, various industrial processes are becoming more fuel efficient. But these developments, although helpful, will not be enough to achieve the 1.5°C target on their own.
Videos and audio
- We must reduce greenhouse gas emissions to net zero or face more floods
The Guardian, Nicholas Stern (8/10/18)
- Rapid, unprecedented change needed to halt global warming – U.N.
Reuters, Nina Chestney and Jane Chung (8/10/18)
- Final call to save the world from ‘climate catastrophe’
BBC News, Matt McGrath (8/10/18)
- New UN report outlines ‘urgent, transformational’ change needed to hold global warming to 1.5°C
The Conversation, Mark Howden and Rebecca Colvin (8/10/18)
- Earth’s temperature to rise 1.5C as early as 2030 amid dire warnings from UN climate panel
The Telegraph (8/10/18)
- UN Climate Change Report: Everything You Need To Know
Huffington Post, Isabel Togoh (8/10/18)
- Thirty years of the IPCC
Physics World (8/10/18)
- 13 things you should know about 1.5
Unearthed, Zach Boren (8/10/18)
- Climate change impacts worse than expected, global report warns
National Geographic, Stephen Leahy (7/10/18)
- World to miss Paris climate targets by wide margin, says UN panel
Financial Times, Leslie Hook (8/10/18)
- We have 12 years to limit climate change catastrophe, warns UN
The Guardian, Jonathan Watts (8/10/18)
- Limiting warming to 1.5C is possible – if there is political will
The Guardian, Christiana Figueres (8/10/18)
- The Trump administration has entered Stage 5 climate denial
The Guardian, Dana Nuccitelli (8/10/18)
- ‘Unprecedented changes’ needed to stop global warming as UN report reveals islands starting to vanish and coral reefs dying
Independent, Josh Gabbatiss (8/10/18)
- Explain the extent to which the problem of global warming is an example of the tragedy of the commons. What other examples are there of the tragedy?
- Explain the meaning of the tragedy of the incumbents and its impact on climate change? Does the length of the electoral cycle exacerbate the problem?
- With the costs of low or zero carbon technology for energy and transport coming down, is there as case for doing nothing in response to the problem of global warming?
- Examine the case for and against using taxes and subsidies to tackle global warming.
- Examine the case for and against using regulation to tackle global warming.
- Examine the case for and against using cap-and-trade systems to tackle global warming.
- Is there a prisoners’ dilemma problem in getting governments to adopt policies to tackle climate change?
- What would be the motivation for individuals to ‘do their bit’ to tackle climate change? Other than altering prices or using regulation, how might the government or other agencies set about persuading people to ‘be more green’?
- If you were doing a cost–benefit analysis of some project that will have beneficial environmental impacts in the future, how would you set about adjusting the values of these benefits for the fact that they occur in the future and not now?
On 8 February, the Bank of England issued a statement that was seen by many as a warning for earlier and speedier than previously anticipated increases in the UK base rate. Mark Carney, the governor of the Bank of England, referred in his statement to ‘recent forecasts’ which make it more likely that ‘monetary policy would need to be tightened somewhat earlier and by a somewhat greater extent over the forecast period than anticipated at the time of the November report’.
A similar picture emerges on the other side of the Atlantic. With labour markets continuing to deliver spectacularly high rates of employment (the highest in the last 17 years), there are also now signs that wages are on an upward trajectory. According to a recent report from the US Bureau of Labor Statistics, US wage growth has been stronger than expected, with average hourly earnings rising by 2.9 percent – the strongest growth since 2009.
These statements have coincided with a week of sharp corrections and turbulence in the world’s largest capital markets, as investors become increasingly conscious of the threat of rising inflation – and the possibility of tighter monetary policy.
The Dow Jones plunged from an all-time high of 26,186 points on 1 February to 23,860 a week later – losing more than 10 per cent of its value in just five trading sessions (suffering a 4.62 percentag fall on 5 February alone – the worst one-day point fall since 2011). European and Asian markets followed suit, with the FTSE-100, DAX and NIKKEI all suffering heavy losses in excess of 5 per cent over the same period.
But why should higher inflationary expectations fuel a sell-off in global capital markets? After all, what firm wouldn’t like to sell its commodities at a higher price? Well, that’s not entirely true. Investors know that further increases in inflation are likely to be met by central banks hiking interest rates. This is because central banks are unlikely to be willing or able to allow inflation rates to rise much above their target levels.
The Bank of England, for instance, sets itself an inflation target of 2%. The actual ongoing rate of inflation reported in the latest quarterly Inflation Report is 3% (50 per cent higher than the target rate).
Any increase in interest rates is likely to have a direct impact on both the demand and the supply side of the economy.
Consumers (the demand side) would see their cost of borrowing increase. This could put pressure on households that have accumulated large amounts of debt since the beginning of the recession and could result in lower consumer spending.
Firms (the supply side) are just as likely to suffer higher borrowing costs, but also higher operational costs due to rising wages – both of which could put pressure on profit margins.
It now seems more likely that we are coming towards the end of the post-2008 era – a period that saw the cost of money being driven down to unprecedentedly low rates as the world’s largest economies dealt with the aftermath of the Great Recession.
For some, this is not all bad news – as it takes us a step closer towards a more historically ‘normal’ equilibrium. It remains to be seen how smooth such a transition will be and to what extent the high-leveraged world economy will manage to keep its current pace, despite the increasingly hawkish stance in monetary policy by the world’s biggest central banks.
Dow plunges 1,175 – worst point decline in history CNN Money, Matt Egan (5/2/18)
Global Markets Shed $5.2 Trillion During the Dow’s Stock Market Correction Fortune, Lucinda Shen (9/2/18)
Bank of England warns of larger rises in interest rates Financial Times, Chris Giles and Gemma Tetlow (8/2/18)
Stocks are now in a correction — here’s what that means Business Insider, Andy Kiersz (8/2/18)
US economy adds 200,000 jobs in January and wages rise at fastest pace since recession Business Insider, Akin Oyedele (2/2/18)
- Using supply and demand diagrams, explain the likely effect of an increase in interest rates to equilibrium prices and output. Is it good news for investors and how do you expect them to react to such hikes? What other factors are likely to influence the direction of the effect?
- Do you believe that the current ultra-low interest rates could stay with us for much longer? Explain your reasoning.
- What is likely to happen to the exchange rate of the pound against the US dollar, if the Bank of England increases interest rates first?
- Why do stock markets often ‘overshoot’ in responding to expected changes in interest rates or other economic variables
OPEC, for some time, was struggling to control oil prices. Faced with competition from the fracking of shale oil in the USA, from oil sands in Canada and from deep water and conventional production by non-OPEC producers, its market power had diminished. OPEC now accounts for only around 40% of world oil production. How could a ‘cartel’ operate under such conditions?
One solution was attempted in 2014 and 2015. Faced with plunging oil prices which resulted largely from the huge increase in the supply of shale oil, OPEC refused to cut its output and even increased it slightly. The aim was to keep prices low and to drive down investment in alternative sources, especially in shale oil wells, many of which would not be profitable in the long term at such prices.
In late 2016, OPEC changed tack. It introduced its first cut in production since 2008. In September it introduced a new quota for its members that would cut OPEC production by 1.2 million barrels per day. At the time, Brent crude oil price was around $46 per barrel.
In December 2016, it also negotiated an agreement with non-OPEC producers, and most significantly Russia, that they would also cut production, giving a total cut of 1.8 million barrels per day. This amounted to around 2% of global production. In March 2017, it was agreed to extend the cuts for the rest of the year and in November 2017 it was agreed to extend them until the end of 2018.
With stronger global economic growth in 2017 and into 2018 resulting in a growth in demand for oil, and with OPEC and Russia cutting back production, oil prices rose rapidly again (see chart: click here for a PowerPoint). By January 2018, the Brent crude price had risen to around $70 per barrel.
Low oil prices had had the effect of cutting investment in shale oil wells and other sources and reducing production from those existing ones which were now unprofitable. The question being asked today is to what extent oil production from the USA, Canada, the North Sea, etc. will increase now that oil is trading at around $70 per barrel – a price, if sustained, that would make investment in many shale and other sources profitable again, especially as costs of extracting shale oil is falling as fracking technology improves. US production since mid-2016 has already risen by 16% to nearly 10 million barrels per day. Costs are also falling for oil sand and deep water extraction.
In late January 2018, Saudi Arabia claimed that co-operation between oil producers to limit production would continue beyond 2018. Shale oil producers in the USA are likely to be cheered by this news – unless, that is, Saudi Arabia and the other OPEC and non-OPEC countries party to the agreement change their minds.
OPEC’s Control of the Oil Market Is Running on Fumes Bloomberg (21/12/17)
Oil Reaches $70 a Barrel for First Time in Three Years Bloomberg, Stuart Wallace (11/1/18)
Banks Increasingly Think OPEC Will End Supply Cuts as Oil Hits $70 Bloomberg, Grant Smith (15/1/18)
Oil prices rise to hit four-year high of $70 a barrel BBC News (11/1/18)
Overshooting? Oil hits highest level in almost three years, with Brent nearing $70 Financial Times, Anjli Raval (10/1/18)
Can The Oil Price Rally Continue? OilPrice, Nick Cunningham (14/1/18)
Will This Cause An Oil Price Reversal? OilPrice, Olgu Okumus (22/1/18)
The world is not awash in oil yet
Arab News, Wael Mahdi (14/1/15)
‘Explosive’ U.S. oil output growth seen outpacing Saudis, Russia CBC News (19/1/18)
Oil’s Big Two seeking smooth exit from cuts The Business Times (23/1/18)
Saudi comments push oil prices higher BusinessDay, Henning Gloystein (22/1/18)
Short-term Energy Outlook U.S. Energy Information Administration (EIA) (9/1/18)
- Using supply and demand diagrams, illustrate what has happened to oil prices and production over the past five years. What assumptions have you made about the price elasticity of supply and demand in your analysis?
- If the oil price is above the level at which it is profitable to invest in new shale oil wells, would it be in the long-term interests of shale oil companies to make such investments?
- Is the structure of the oil industry likely to result in long-term cycles in oil prices? Explain why or why not.
- Investigate the level of output from, and investment in, shale oil wells over the past three years. Explain what has happened.
- Would it be in the interests of US producers to make an agreement with OPEC on production quotas? What would prevent them from doing so?
- What is likely to happen to oil prices over the coming 12 months? What assumptions have you made and how have they affected your answer?
- If the short-term marginal costs of operating shale oil wells is relatively low (say, below $35 per barrel) but the long-term marginal cost (taking into account the costs of investing in new wells) is relatively high (say, over $65 per barrel) and if the life of a well is, say, 5 years, how is this likely to affect the pattern of prices and output over a ten-year period? What assumptions have you made and how do they affect your answer?
- If oil production from countries not party to the agreement between OPEC and non-OPEC members increases rapidly and if, as a result, oil prices start to fall again, what would it be in OPEC’s best interests to do?
In 2012, the Scottish Parliament voted to introduce a minimum unit price for alcoholic drinks. The Scotch Whisky Association along with others appealed against the legislation, but on 15 November 2017 the UK Supreme Court ruled unanimously that the legislation does not breach European Union law. It is thus likely that, after consultation, a 50p minimum unit price will be introduced, making Scotland the first country in the world to introduce minimum pricing for alcohol.
As we saw in a previous blog, Alcohol minimum price, the aim is to prevent the sale of really cheap drinks in supermarkets and other outlets. For example, three-litre bottles of strong cider can be sold for as little as £3.59. Sometimes supermarkets offer multibuys which are heavily discounted. The idea of minimum pricing is to stop these practices without affecting ‘normal’ prices. For example, the legislation will not affect prices in pubs, which are already more than 50p per unit of alcohol.
The following table shows how much prices would rise for various types of drink when compared to current cheap supermarket prices. The biggest percentage effect is for cheap, strong cider and beer.
||Units of alcohol
||New minimum price
|Cheap strong cider
|Cheap beer/lager (normal)
||4 × 440ml
|Cheap beer/lager (strong)
||4 × 500ml
|Cheap strong spirits
The hope is that by preventing the sale of really cheap drinks in supermarkets, people will no longer be encouraged to ‘pre-load’, so that when they go out for the evening they are already drunk. It would also help to reduce the number of alcoholics amongst the poor.
But this raises the question of equity. By targeting cheap drink, the policy is likely to hit the poor hardest. The question is whether this will simply lead to alcoholics on low incomes cutting down on other things, such as food and clothing for themselves and their children.
How successful, then, will such a policy be in cutting down drunkenness and the associated anti-social behaviour in many Scottish towns and cities, especially on Friday and Saturday nights? This will depend on the price elasticity of demand.
Videos and podcasts
Scotland first country to introduce minimum alcohol price Channel 4 News, Fatima Manji (15/11/17)
The story of how Scotland brought in minimum pricing on alcoh The Scotsman, Ross McCafferty (15/11/17)
Supreme Court rejects challenge against plans for minimum alcohol pricing in Scotland ITV News, Peter Smith (15/11/17)
Scotland getting the all-clear for minimum alcohol pricing as judges reject appeal Heart Scotland News, Connor Gillies (15/11/17)
Alcohol minimum unit pricing to go ahead Scottish Government: news (15/11/17)
Scottish alcohol price survey 2016 Alcohol Focus Scotland (2016)
Minimum pricing Alcohol Focus Scotland (2017)
Supreme Court backs Scottish minimum alcohol pricing BBC News (15/11/17)
Supreme Court backs Scottish minimum alcohol pricing plans Out-Law.com (15/11/17)
Go-ahead for minimum alcohol pricing British Medical Association (BMA), Jennifer Trueland (15/11/17)
Expert reaction to UK supreme court ruling that the Scottish government can set a minimum price for alcohol, rejecting a challenge by the Scotch Whisky Association Science Media Centre (15/11/17)
Scotland to become first country with minimum price for alcohol sales Independent, Alex Matthews-King (15/11/17)
Scotland leading the world over minimum alcohol price ITV News (15/11/17)
Campaigners urge minimum alcohol price in England after Scottish ruling The Guardian, Severin Carrell (15/11/17)
Scottish ‘booze cruises’ to England predicted as minimum pricing introduced The Telegraph, Olivia Rudgard (15/11/17)
- Draw a diagram to illustrate the effect of a minimum price per unit of alcohol on (a) cheap cider; (b) good quality wine.
- What would be the likely effects of a 50p per unit minimum price on the pub trade?
- How is the price elasticity of demand for alcoholic drinks relevant to determining the success of minimum pricing?
- What determines the price elasticity of demand for cheap alcoholic drinks?
- Compare the effects on alcohol consumption of imposing a minimum unit price of alcohol with raising the duty on alcoholic drinks. What are the revenue implications of the two policies for the government?
- What externalities are involved in the consumption of alcohol? How could a socially efficient price for alcohol be determined?
- Could alcohol consumption be described as a ‘de-merit good’? Explain.
- Other than high minimum prices and taxation, what other policies could be used to (a) tackle binge drinking; (b) tackle the problem of alcoholism?
- What will determine the number of people travelling from Scotland to England to buy cheaper alcoholic drinks?
In three interesting articles, linked below, the authors consider the state of economies since the financial crisis of 2007–8 and whether governments have the right tools to tackle future economic shocks.
There have been some successes over the past 10 years, in particular keeping inflation close to central bank targets despite considerable shocks (see the Vox article). Also unemployment has fallen in most countries and to very low levels in some, including the UK.
But economic growth has generally remained well below the levels prior to the financial crisis, with low productivity growth being the main culprit. Indeed, many people have seen no growth at all in their real incomes over the past 10 years, with low unemployment being bought at the cost of a growth in zero-hour contracts and work in the gig economy. And what economic growth we have seen has been largely the result of taking up slack through unprecedentedly loose monetary policy.
Fiscal policy, except in the period directly following the financial crisis, has generally been tight as governments have sought to reduce their deficits and slow down the growth in their debt.
But what will happen if economies once more slow? Or, worse still, what will happen if there is another global recession? Do countries have the policies to tackle the problem this time round?
Quantitative easing could be used again, but many economists believe that it will have more limited scope if confined to the purchase of assets in the secondary market. Also, there is little scope for reducing interest rates, which, despite some modest rises in the USA, remain at close to zero in most developed countries.
One possibility is a combination of monetary and fiscal policy, where new money is used to finance government expenditure on infrastructure, such as road and rail, broadband, green energy, hospitals and schools and colleges. This would avoid the need for governments to borrow on open markets as the spending would be financed by new government securities purchased directly by the central bank.
An objection to such ‘people’s quantitative easing‘, as it has been dubbed, is that it would effectively end the independence of central banks. This independence has been credited by many with giving central banks credibility in controlling inflation. Would inflationary expectations rise with people’s quantitative easing and, with it, actual inflation? A lot would depend on the extent to which this QE could still be conducted within a framework of targeting inflation and whether people’s expectations of inflation could be managed jointly by the government and central bank.
How should recessions be fought when interest rates are low? The Economist. Free exchange (21/10/17)
The economy is failing. We need to think radically about how to fix it The Guardian, Liam Byrne (25/10/17)
Elusive inflation and the Great Recession Vox, David Miles, Ugo Panizza, Ricardo Reis, Ángel Ubide (25/10/17)
Economics since the crisis Vox on YouTube. Charles Goodhart (11/10/17)
Is the system broken? Vox on YouTube, Anat Admati (12/10/17)
Signs of a crisis Vox on YouTube, Christian Thimann (19/10/17)
Policy stances since 2007 Vox on YouTube, Paul Krugman (29/10/17)
Did policymakers get it right? Vox on YouTube, Paul Krugman (4/10/17)
- Why, during the next recession, will the “zero lower bound” (ZLB) on interest rates almost certainly bite again?
- Why would the scope for QE, as conducted up to now, be more limited in the future if a recession were to occur?
- Why have central banks appeared to have been so successful in keeping inflation close to target despite negative and positive demand- and supply-side shocks?
- Why are the pressures on government expenditure likely to increase in the coming years?
- How would a temporary price-level target help to tackle a recession when the economy next bumps into the ZLB? What would limit its success?
- Is it appropriate for central banks to stick to an inflation target in times when there is an adverse supply-side shock resulting in cost-push inflation?
- Why might monetary policy conducted in a framework of inflation targeting tend to lessen the impact of a fiscal stimulus?
- What are the arguments for and against relaxing central bank independence and pursuing a co-ordinated fiscal and monetary policy?
- What are the arguments for and against using helicopter money to boost private expenditure during a future recession where interest rates are already near the ZLB?
- What are the arguments for and against using ‘people’s QE’?