There is increasing recognition that the world is facing a climate emergency. Concerns are growing about the damaging effects of global warming on weather patterns, with increasing droughts, forest fires, floods and hurricanes. Ice sheets are melting and glaciers retreating, with consequent rising sea levels. Habitats and livelihoods are being destroyed. And many of the effects seem to be occurring more rapidly than had previously been expected.
Extinction Rebellion has staged protests in many countries; the period from 20 to 27 September saw a worldwide climate strike (see also), with millions of people marching and children leaving school to protest; a Climate Action Summit took place at the United Nations, with a rousing speech by Greta Thunberg, the 16 year-old Swedish activist; the UN’s Intergovernmental Panel on Climate Change (IPCC) has just released a report with evidence showing that the melting of ice sheets and rising sea levels is more rapid than previously thought; at its annual party conference in Brighton, the Labour Party pledged that, in government, it would bring forward the UK’s target for zero net carbon emissions from 2050 to 2030.
Increasingly attention is focusing on what can be done. At first sight, it might seem as if the answer lies solely with climate scientists, environmentalists, technologists, politicians and industry. When the matter is discussed in the media, it is often the environment correspondent, the science correspondent, the political correspondent or the business correspondent who reports on developments in policy. But economics has an absolutely central role to play in both the analysis of the problem and in examining the effectiveness of alternative solutions.
One of the most influential studies of the impact of climate change and means of addressing it was the study back in 2006, The Economics of Climate Change: The Stern Review, led by the economist Sir Nicholas Stern. The Review reflected economists’ arguments that climate change represents a massive failure of markets and of governments too. Firms and individuals can emit greenhouse gases into the atmosphere at no charge to themselves, even though it imposes costs on others. These external costs are possible because the atmosphere is a public good, which is free to exploit.
Part of the solution is to ‘internalise’ these externalities by imposing charges on people and firms for their emissions, such as imposing higher taxes on cars with high exhaust emissions or on coal-fired power stations. This can be done through the tax system, with ‘green’ taxes and charges. Economists study the effectiveness of these and how much they are likely to change people’s behaviour.
Another part of the solution is to subsidise green alternatives, such as solar and wind power, that provide positive environmental externalities. But again, just how responsive will demand be? This again is something that economists study.
Of course, changing human behaviour is not just about raising the prices of activities that create negative environmental externalities and lowering the prices of those that create positive ones. Part of the solution lies in education to make people aware of the environmental impacts of their activities and what can be done about it. The problem here is that there is a lack of information – a classic market failure. Making people aware of the consequences of their actions can play a key part in the economic decisions they make. Economists study the extent that imperfect information distorts decision making and how informed decision making can improve outcomes.
Another part of the solution may be direct government investment in green technologies or the use of legislation to prevent or restrict activities that contribute to global warming. But in each case, economists are well placed to examine the efficacy and the costs and benefits of alternative policies. Economists have the tools to make cost–benefit appraisals.
Economists also study the motivations of people and how they affect their decisions, including decisions about whether or not to take part in activities with high emissions, such air travel, and decisions on ‘green’ activities, such as eating less meat and more vegetables.
If you are starting out on an economics degree, you will soon see that economists are at the centre of the analysis of some of the biggest issues of the day, such as climate change and the environment generally, inequality and poverty, working conditions, the work–life balance, the price of accommodation, the effects of populism and the retreat from global responsibility and, in the UK especially, the effects of Brexit, of whatever form.
The linked article below, by Evan Davis, assesses the state of economics. He argues that economics has had some major successes over the years in providing a framework for understanding how economies function and how to increase incomes and well-being more generally.
Over the last few decades, economists have …had an influence over every aspect of our lives. …And during this era in which economists have reigned, the world has notched up some marked successes. The reduction in the proportion of human beings living in abject poverty over the last thirty years has been extraordinary.
With the development of concepts such as opportunity cost, the prisoners’ dilemma, comparative advantage and the paradox of thrift, economics has helped to shape the way policymakers perceive economic issues and policies.
These concepts are ‘threshold concepts’. Understanding and being able to relate and apply these core economic concepts helps you to ‘think like an economist’ and to relate the different parts of the subject to each other. Both Economics (10th edition) and Essentials of Economics (8th edition) examine 15 of these threshold concepts. Each time a threshold concept is used in the text, a ‘TC’ icon appears in the margin with the appropriate number. By locating them in this way, you can see their use in a variety of contexts.
But despite the insights provided by traditional economics into the various problems that society faces, the discipline of economics has faced criticism, especially since the financial crisis, which most economists did not foresee.
Even Davis identifies two major shortcomings of the discipline – both beginning with ‘C’. ‘One is complexity, the other is community.’
In terms of complexity, the criticism is that economic models are often based on simplistic assumptions, such as ‘rational maximising behaviour’. This might make it easier to express the models mathematically, but mathematical elegance does not necessarily translate into predictive accuracy. Such models do not capture the ‘messiness’ of the real world.
These models have a certain theoretical elegance but there is now an increasing sense that economies do not evolve along a well-defined mathematical path, but in a far more messy way. The individual players within the economy face radical uncertainty; they adapt and learn as they go; they watch what everybody else does. The economy stumbles along in a process of slow discovery, full of feedback loops.
As far as ‘community’ is concerned, people do not just act as self-interested individuals. Their actions are often governed by how other people behave and also by how their own actions will affect other people, such as family, friends, colleagues or society more generally.
And the same applies to firms. They will be influenced by various other firms, such as competitors, trend setters and suppliers and also by a range of stakeholders – not just shareholders, but also workers, customers, local communities, etc. A firm’s aim is thus unlikely to be simple short-term profit maximisation.
And this broader set of interests translates into policy. The neoliberal free-market, laissez-faire approach to policy is challenged by the desire to take account of broader questions of equity, community and social justice. However privately efficient a free market is, it does not take account of the full social and environmental costs and benefits of firms’ and consumers’ actions or a fair distribution of income and wealth.
It would be wrong, however, to say that economics has not responded to these complexities and concerns. The analysis of externalities, income distribution, incentives, herd behaviour, uncertainty, speculation, cumulative causation and institutional values and biases are increasingly embedded in the economics curriculum and in economic research. What is more, behavioural economics is becoming increasingly mainstream in examining the behaviour of consumers, workers, firms and government. We have tried to reflect these developments in successive editions of our four textbooks.
In 2015, at the COP21 climate change conference in Paris, an agreement was reached between the 195 countries present. The Paris agreement committed countries to limiting global warming to ‘well below’ 2°C and preferably to no more than 1.5°C. above pre-industrial levels. To do this, a ‘cap-and-trade’ system would be adopted, with countries agreeing to limits to their emissions and then being able to buy emissions credits to exceed these limits from countries which had managed to emit below their limits. However, to implement the agreement, countries would need to adopt a ‘rulebook’ about how the permitted limits would be applied, how governments would measure and report emissions cuts, how the figures would be verified and just how a cap-and-trade system would work.
At the COP24 meeting from 2 to 15 December 2018 in Katowice, Poland, nearly 14 000 delegates from 196 countries discussed the details of a rulebook. Despite some 2800 points of contention and some difficult and heated negotiations, agreement was finally reached. Rules for targeting, measuring and verifying emissions have been accepted. If countries exceed their limits, they must explain why and also how they will meet them in future. Rich countries agreed to provide help to poor countries in curbing their emissions and adapting to rising sea levels, droughts, floods and other climate-induced problems.
But no details have been agreed on the system of carbon trading, thanks to objections from the Brazilian delegates, who felt that insufficient account would be made of their country’s existing promises on not chopping down parts of the Amazon rainforest.
Most seriously, the measures already agreed which would be covered by the rulebook will be insufficient to meet the 2°C, let alone the 1.5°C, target. The majority of the measures are voluntary ‘nationally determined contributions’, which countries are required to submit under the Paris agreement. These, so far, would probably be sufficient to limit global warming to only around 3°C, at which level there would be massive environmental, economic and social consequences.
There was, however, a belief among delegates that further strong international action was required. Indeed, under the Paris agreement, emissions limits to keep global warming to the ‘well below 2°C’ level must be agreed by 2020.
Climate change is a case of severe market failure. A large proportion of the external costs of pollution are borne outside the countries where the emitters are based. This creates a disincentive for countries acting alone to internalise all these externalities through the tax system or charges, or to regulate them toughly. Only by countries taking an international perspective and by acting collectively can the externalities be seen as a fully internal problem.
Even though most governments recognise the nature and scale of the problem, one of the biggest problems they face is in persuading people that it is in their interests to cut carbon emissions – something that may become increasingly difficult with the rise in populism and the realisation that higher fuel and other prices will make people poorer in the short term.
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.
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.
Intergovernmental Panel on Climate Change (IPCC) (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?
Last week was a rough week for Britain. The “Beast from the East” and storm Emma swept through the country, bringing with them unusually heavy snowfall, which resulted in severe disruption across nearly all parts of the country. Some recent estimates put the cost of these extreme weather conditions at up to £1 billion per day. The construction industry suffering the biggest hit as work came to a halt for the best part of the week. Losses for the industry were estimated to be up to £2 billion.
Closed restaurants, empty shops and severely disrupted transport networks were all part of the effect that this extreme weather had on the overall economy. According to Howard Archer, chief economic adviser of the EY ITEM Club (a UK forecasting group):
It is possible that the severe weather [of the last few days] could lead to GDP growth being reduced by 0.1 percentage point in Q1 2018 and possibly 0.2 percentage points if the severe weather persist.
As the occurrence of freak weather increases across the globe due to climate change, so does the economic cost of these events. The figure above shows the estimated costs of extreme weather events in the USA between 1980 and 2012 and it is reproduced from Jahn (see link below), who also fits a quadratic trend to show that these costs have been increasing over time. He goes on to characterise the impact of different types of extreme weather (including cold waves, heat waves, storms and others) on different sectors of the local economy – ranging from tourism and agriculture, to housing and the insurance sector.
Linnenluecke et al (linked below) argue that extreme weather caused by climate change could influence the decision of firms on where to locate and could lead to a reshuffle of economic activity across the world and have important policy implications. As the authors explain:
Climate change-related relocation has been given consideration in policy-oriented discussions, but not in management decisions. The effects of climate change and extreme weather events have been considered as peripheral or as a risk factor, but not as a determining factor in firm relocation processes…. This paper therefore [provides] insights for understanding how firms can enhance strategic decision-making in light of understanding and assessing their vulnerability as well as likely impacts that climate change may have on relocation decisions.
The likelihood and associated costs of extreme weather events could therefore become an increasingly important matter for discussion amongst economists and policy makers. Such weather events are likely to have profound economic implications for the world.