I want to start this presentation by making 6 propositions. In what follows I will explain and justify each proposition.
My presentation has 6 sections. The first section outlines various concepts and introduces some of the jargon with which you may or may not be familiar. It does so in part by looking at the links between economic growth and climate change. It also addresses the first two propositions. The second section looks at what we know of the economic impacts of climate change. In this I will introduce some of the modelling approaches which have been used and present some headline findings.
The third and fourth sections look at the economic implications for adaptation and mitigation. I again briefly outline some of the models which have been used before presenting findings and noting some policy implications.
The fifth section looks at adaptation and mitigation together – all too often they are treated separately, which clearly doesn’t make sense for small island states. In the sixth section I tease out what this could mean for the CDB I conclude by returning to the 6 propositions, briefly reviewing the evidence for each of them
This slide sets out the two way relationship between climate change and economic growth •economic growth is historically associated with the rise in green house gas emissions which is driving climate change •climate change itself will impact on a country‟s growth prospects through rising temperatures, changes in rainfall patterns and more extreme climatic events Responses - the climate is going to change. The next 40 years of change is already locked into the system through e.g. rising sea temperatures. All countries will need to adapt to the inevitable - there is a need for mitigation to act on the causes of climate change Presently only a number of developed countries have taken on binding commitments through the UN‟s Framework Convention on Climate Change (UNFCCC) to cut their absolute emissions. These are the so-called Annex 1 countries which are mostly, but not exclusively, high income countries. Not all high income countries are Annex 1 countries. Non-Annex 1 countries have under the UNFCC “common but differentiated responsibilities” to mitigate and often look to developed countries to help fund this mitigation. Whereas there is clearly a logic in expecting the more developed countries – which historically have been responsible for much of cumulative emissions – footing the bill, in what follows I‟ll show that there is a degree of mitigation that is in each country‟s self interest. In addition to the first-round interactions between climate change and economic growth there are likely to be indirect, or second-round, effects arising from how countries mitigate and adapt. That is, a move towards an increasingly carbon-constrained global economy will impact non-Annex 1 countries whether they chose to mitigate or not. This is not an area we know a great deal about but I will say more on this later. Three of my propositions related to economic growth and I used two labels - climate resilient growth – which refers to patterns of economic growth which help countries to adapt by building resilience to the impacts of climate change; and - low carbon growth – which is growth with lower emissions than would otherwise be the case. These two labels are distinct in that they call for different policies and patterns of investment. They also largely involve different actors. However, they should not be seen as mutually exclusive. They should overlap. We should be careful not to do one at the expense of the other. I must stress that climate resilient and low carbon growth are just labels. They don‟t define a particular pattern of growth or a blue print. With each will be associated a wide variety of patterns and appropriate policy measures.
As this quote from the Stern Report notes, climate change is in part the result of a market failure. The failure in this case is that in the decisions we take we do not factor in the cost of the damage of our individual actions on the global climate. Fossil fuels have for the last couple of centuries‟ powered much of the dramatic economic growth and continue to do so. But in the decisions we take – on whether to drove here today rather than walked, cycled or used pubic transport – we factor in the cost of fuel, the value of our time among other things, but are not required to factor in the damage the greenhouse gases emitted by the fossil options have on the global climate.
Moreover, not only do the markets fail but there is an inequality in that those who cause the most damage tend not to be those who will bear the costs of climate impacts. Climate impacts are likely to be harder on poorer countries which tend to have low per capita greenhouse gas emissions and disproportionately on poorer people in all countries.
The solution may appear simple – to price carbon and force people, companies and governments to take it into account in the decisions they take. There are two main ways of doing this, depending on whether we want to have greater certainty over price or the quantity of emissions: •To set a price through carbon taxes, but accept that the quantity (abatement) response will be uncertain. •To set the quantity, the amount of emissions, and accept that the price will vary. There are pros and cons of each and economic theory can help in the choice. In practice the politics tends to dominate and most countries are opting for quantity – carbon cap and trade schemes – such as the EU Emissions Trading Scheme and that proposed for the US in the Waxman Markey Bill. But some, such as South Africa, have been discussing a carbon tax. A benefit of cap and trade is that it should help reduce the cost of mitigation if trading in permits is allowed. It is estimated that the developing world contains most of the cost-effective mitigation potential. The Clean Development Mechanism of the UNFCCC is one way of undertaking mitigation projects outside Annex 1 countries.
Another important concept is stabilisation. The left-hand graph shows the strong historical correlation between economic growth and the carbon dioxide emissions from fossil fuels (the correlation is less strong when all GHGs are added). Global CO2 emissions continue to rise. These flows add to a stock and it is this concentration of GHGs in the atmosphere that does harm. Different concentrations are associated with different probabilities of global temperature increases. We are fast approaching the concentration most likely to lead to a temperature increase of 2 degrees celsius from pre-industrial times. We need therefore to break this correlation between economic growth and GHG emissions in order to stabilise emissions by ensuring that the amount we emit is offset by the amount of CO2 absorbed by the oceans, forests and soils. That is we need to decouple economic growth from GHG emissions. This will involve producing energy in low or zero carbon ways or taking CO2 out of the atmosphere by planting more trees or improving the quality of soils. Given these low carbon techniques tend to add to costs a key question is whether there will be a trade-off between stabilisation and economic growth and, if so, how great this will be. But why not just stop economic growth? Besides the political difficulties of limiting peoples‟ aspirations, growth is needed to help a great many people adapt to the inevitable impacts of climate change. Wealthier people – and countries – are better able to weather shocks. Wealth buys options, including the ability to share risks through insurance. We not only therefore need low carbon growth, but growth which is of a pattern which will help build people‟s, and the economies they are part of, resilience to climate impacts.
The last concept I want to introduce is that of a carbon budget. The diagram is a more sophisticated version of the right-hand panel from the previous slide. BAU business as usual - shows the global emissions rising if we do not actively seek to reduce our emissions. The different coloured curves show how global emissions need to peak and then decline. Lower concentrations – associated with a probability of lower temperature increases – require quicker and steeper cuts in emissions. Another way of reading the curves is that the vertical difference between them and the horizontal axis represents a global carbon budget. At present only Annex 1 countries have binding carbon budgets (formalised in law in the UK through 5-year carbon budgets). Developing country mitigation is required or else by 2030 their BAU emissions alone will exceed the global stabilisation trajectory necessary if we are limit temperature increases to 2 degrees. What this means is that worldwide per capita emissions will need to be cut to about 2 tonnes by 2050. This is important even if you do not envisage non-Annex 1 countries needing to cut emissions for years to come. Just as the recurrent costs associated with government infrastructure investments limits future Governments‟ freedom to allocate expenditures as they see fit, so the emissions associated with particular investment choices today will lock a country into a pattern of emissions which reduce discretion over future carbon budgets. This lock-in can be long-lasting – often 40-50 years for thermal power plants and over a century for urban layouts.
Modelling the economic impacts of climate change starts with the science. Assumptions about future GHG emissions and other pollutants are run through general circulation models (GCMs) which reflect our understanding of how these increased atmospheric concentrations of GHG will affect the global climate. The outputs from the GCM are fed into scenarios, which seek to present plausible representations of the future. The scenarios most commonly used are those set out by the IPCC.
Economists run the different climate scenarios through models known as Integrated Assessment Models which – as their name implies – integrate climate and economic data. They are top-down models which provide a tool for estimating the total impact on the economy. They are generally estimated at the global or regional levels.
It is also possible to model impacts in individual countries using computable general equilibrium models, though the results depend on the quality of the climate data inputted. CGEs are better at modelling nearer term changes. This economic modelling has given rise to a range of results. Different GCMs will give rise to different ranges for climatic variables in each scenario and then the IAMs differ in their assumptions. Stern (see http://www.hm-treasury.gov.uk/sternreview_index.htm) was controversial in the high estimates of cost that he produced. Some of the differences stem from assumptions over discount rates. Disaggregate analyses for developing regions tend also to estimate higher costs. A regional economics of climate change study is being undertaken by ECLAC for the Caribbean.
The economics of adaptation is concerned with optimising the amount of adaptation; if this is too low then damages will be greater than are desirable; but if it is too high or too soon then the extra costs associated with it will, other things being equal, tend to slow economic growth. The economics does not point to minimising the impact of climate change but rather to balance the damage and adaptation costs. As you would expect, this will point to different amounts of adaptation being undertaken in different places, or even the same place over time. Sea defences are a case in point. • A review of the Netherlands coastal defences in light of climate change recommended increasing the protection they provide; the cost effectiveness question is one of how to protect. Similar issues will apply for Guyana. • In the UK (which has doubled spending on flooding & coastal defence) the question of whether to protect is asked. A 2004 paper on the maintenance of uneconomic sea flood defences noted that “the cost of maintenance of many existing defences along stretches of the Essex coast and estuaries exceeds the benefits”. More recently the British Government has launched a consultation on coastal change, noting that “We will defend where it is sustainable and affordable to do so. However, there will be some locations where it is not sustainable or desirable to either build new defence structures or maintain existing ones. Where this is the case, communities will need to start preparing for and managing change.” Undertaking analyses of the economics of climate change is not straightforward. The problems of estimating the damage costs have already been noted. Nonetheless, the points remain: • that adaptation will entail additional costs and, given how scarce resources are, these need to be prioritised; and • cost-benefit methods exist which can help inform decision making under uncertainty.
Much of the work on the economics of adaptation to date has sought to find out what the costs of adaptation will be in order to inform the UNFCCC negotiations. Relatively little work has been done on understanding what patterns of economic growth are needed to help build a country‟s resilience to climate change (or which could increase its vulnerability through mal-adaptation). This slide is very provisional. The building blocks it proposes are based as much on first principles as hard evidence. I present it as a straw man and invite debate.
The first block is a key element of adaptation – climate proofing – and one which is amenable to cost-effectiveness analysis. This varies from decisions on infrastructure to the types of crop to grow. On infrastructure, decisions range from building structures to withstand a wide range of impacts to weaker structures which can be cheaply replaced.
Much adaptation will be autonomous rather than planned by government. Flexible markets and institutions will give people the flexibility to adapt as they think best. Flexible markets which allow changes in relative prices to signal the necessary change will be important. Diversification, though probably desirable, is we all know difficult. Countries, even those dependent on a small range of products, will vary in the extent to which their sectors are vulnerable. For infrequent but high risk events insurance may provide an option or at least buy time. Remittances may be a sensible diversification strategy at the household level. The balance between these factors will vary across countries and time. In the face of uncertainty, starting with no-regrets or measures desirable for other objectives should help in promoting growth. Then move on to cost-effective DRR based on current climate variability.
The key concept underpinning the economics of adaptation is the marginal abatement cost curve. Some studies look at the macro-economic impacts to understand how mitigation options affect other economic objectives – growth, jobs, government revenues - and may change the structure of the economy. MACCs show the quantity of emissions that can be abated on the horizontal axis and the cost (per tonne of GHG abated) on the vertical. For each sector or technology they compare the present value costs and mitigation potential against the cheapest alternative. For electricity this will often be coal generation. Because technologies differ in their up-front capital costs and in their subsequent recurrent costs, it is necessary to discount future costs. MACCs differ in how far ahead they look and so in their assumptions about what new technologies will become commercially available. Many MACCs are developed from bottom-up engineering models. Some allow for a degree of interaction between technologies; for example, switching to cost-effective renewables could reduce the local price of coal which would in turn tend to increase the marginal cost of renewables. The MACC is calculated iteratively. The MACC points you towards cost-effective mitigation – you start with options on the left and work towards the right. The section to the left suggests there are a great many mitigation options which should save you money over the life of the product or investment. That is, the up-front capital cost will be more than offset by savings. An example would be a compact fluorescent light bulb, which costs more to buy but starts saving you money straight away compared with standard light bulbs. Some experts question whether so many negative cost options actually exist. Explanations include differences between public (societal) and private discount rates and market failures which deter people from improving the efficiency with which they use energy. Policies need to be carefully tailored to remove these barriers – such as information, standards/regulation and taxes/incentives. A carbon price would have the effect of making more mitigation cost effective.
This is the same Mexico MACC as shown earlier. Combined with modelling the macro-economic impacts of the cost effective mitigation options, the study it is taken from suggested that mitigation could be pro-growth for Mexico. It also illustrates the building blocks of low carbon growth • energy efficiency • decarbonising energy sources, and • preserving and expanding carbon sinks – forests, agricultural lands These should ideally be underpinned by appropriate consumer and business behaviour. In some cases this will be behaviour change – in other cases continuing currently sustainable practices. What it also shows is that there is no silver bullet – there is no one option which will decarbonise the Mexican economy. Options exist across all sectors and a mix of policies is called for.
The findings of the South Africa low carbon study are presented as mitigation wedges in a stabilisation graph (similar to that presented in slide 7). These wedges are taken from a MACC, in this case going out to 2050, which allowed a range of new technologies – such as electric cars – to be considered. Whereas the Mexico study suggested that it would be possible to realise low carbon growth without necessarily fundamentally changing the structure of the economy (with exception of the relative importance of the oil industry), the South Africa study found that technology would not allow it to decarbonise to the extent that the science requires it to. The wind and geothermal options open to Mexico are missing in South Africa. The study concluded that South Africa would need to change the structure of its economy if it was to mitigate to the extent required by science. That is, shift away from attracting energy intensive industries, such as mining and mineral processing, towards cleaner tertiary sectors. The future could, of course, be different. Advances in solar technologies could mean that South Africa could meet a larger share of its energy needs from renewable sources.
The energy efficiency options highlight that there will be degree of mitigation which is in each country‟s self interest. By reducing costs, energy efficiency measures could improve a country‟s competitiveness or reduce costs to its consumers or both. Other co-benefits include • Energy security – reducing countries‟ exposure to the vagaries of a volatile oil market • Health benefits from lower pollution be it in-door pollution from cooking with fuel wood or urban air pollution. • Co-benefits with adaptation. These could include water storage either for irrigation or flood management but which allow hydro electricity to be generated, or the expansion or better management of mangroves for coastal protection which also store carbon.
All could present reasons why countries not otherwise required to cap their emissions may choose nonetheless to start to limit them.
Some countries – such as Mexico and South Africa – are exploring whether they should start to mitigate beyond that amount which is in their short-term self interest. However, they face a dilemma in doing so because, once they go beyond energy efficiency, mitigation will have a positive present value cost and so potentially slow economic growth. This creates a dilemma: • do they go for growth now but risk locking themselves into high carbon infrastructure? As noted earlier, if they subsequently become subject to a cap, then this will reduce the discretion they have over their future carbon budget or possibly entail expensive retrofitting costs; • or do they mitigate now but bear at a higher cost for new technologies which will almost certainly come down in price as more are produced?
Whereas economics can throw some light on this choice, there is not necessarily a firm right or wrong answer. Particularly in the absence of a hard carbon price.
The problem is that many countries lack the information on which to base any such decision. Such information is a global public good and one the CDB is well suited to help provide for the Caribbean region.
So far in this presentation adaptation and mitigation have been treated separately. This makes some sense in that many of the policies and patterns of investment they need will be different and, in many countries, will involve different actors. But, as the previous slide noted, there are potential synergies between them. Stern concluded that delaying action on mitigation would cost more in the long-term through higher damage & adaptation costs. There may be trade-offs – either patterns of adaptation which lead to higher emissions or, more worrying, patterns of mitigation which could increase a country‟s vulnerability to climate change. Moreover, in SIDS it is more likely that the actors will be the same. It will be important therefore that development strategies take both adaptation and mitigation into account, to exploit synergies and minimise trade-offs: to devise patterns of growth that are simultaneously climate-resilient and low carbon. So far this presentation has focused largely on the direct links between growth and climate change. There will also be indirect links. Notably, Annex 1 mitigation strategies will impact other countries through international trade. There are various channels through which this may happen. Some impacts may be negative. We have already seen this through the impact of biofuels on food prices and the debate on „carbon miles‟ – the distance certain niche foodstuffs are airfreighted – in the UK and elsewhere. The tourism industry is also susceptible to changing consumer tastes as the next slide on the Maldives will highlight. The recent WTO signal that countries implementing cap and trade schemes may be able to use border taxes to protect domestic industries could have farreaching implications for developing countries.
But there may also be opportunities. Other countries‟ investment may help drive down the cost of renewables or CDB members may be able to take advantage of carbon finance to help fund mitigation. Export industries may help in this decarbonisation – apparently this is starting to happen in Sri Lanka where some major export companies have already undertaken ISO carbon footprinting in response to pressure higher up their supply chains and are looking to reduce further their footprint.
Understanding what an increasingly carbon-constrained global economy may look like and its implications for developing countries is another under-researched area. But it is one where the CDB may wish to inform itself and its member states.
One country where a number of the issues raised so far – extreme climate impacts, indirect effects through developed country mitigation measures – come together is the Maldives.
Not only is it extremely vulnerable to sea level rise and storm surges but its main industry – tourists, most of whom fly in - is vulnerable to the changes in consumer behaviour consistent with mitigation. That is, too aggressive a stance by the Government on the need for mitigation by high income countries could seriously affect its main industry and so growth prospects.
The response of Government and the major tourist resorts is interesting. The latter are branding themselves under an eco-label. They are both investing in low carbon power sources and have increased the price of holidays to cover the cost of offsetting the carbon emitted by tourists‟ return flights (this has not cut demand because the islands attract particularly wealthy tourists). The Government meanwhile has stated its intent to go carbon-neutral by 2020 as a challenge to large emitting countries to mitigate more while it also undertakes major adaptation projects (sea wall around capital city, raising land to 2m above sea level for other city). It would presumably be possible to channel some of the flight offset funds to cover the abatement costs of making the islands carbon neutral. There may be lessons from Maldives‟ approach for some CDB member states.
The presentation has highlighted both the need for cost-effective adaptation and to be aware of opportunities for cost-effective mitigation that is in a country‟s self interest. Both of these have implications for the CDB. So what might the CDB do? There is clearly a need for information. A theme throughout this presentation is uncertainty. This is in part because there is a lot we cannot know with certainty. But there is also just a lot that we do not know. Much of this information would take the form of a public good – helping member states understand the nature of and to prepare for the direct and indirect impacts of climate change and their options for climate-resilient, low carbon growth. The Caribbean regional economics of climate change study should help with this and will present opportunities for follow-up work. Adaptation will necessarily build on current DRR activities. The Bank‟s Position Paper on Responding to Climate Change already notes the need to incorporate climate risk management into its investment portfolio. The Bank could take this further and start to help explore what patterns of climate-resilient growth may look like for particular member states. There are also a number of things the Bank could do to help member states decarbonise. Win-wins between mitigation and other national objectives should be explored, starting with energy efficiency. Information will help countries explore the dilemma presented earlier on how soon and how fast they should start to mitigate, given their likely future carbon constraint. One practical thing the Bank could do would be to understand how a carbon price would change its own investment portfolio. At the very least a switching price – at which the low carbon investment becomes the more cost-effective option – could be calculated. Finally, the CDB could explore the opportunities for establishing its own carbon fund, which would attract finance from Annex 1 countries wishing to buy carbon offsets and invest these in low carbon projects generating certified emission reductions. Other development banks have established such funds and the CDB might learn from their experiences.