The Economics of Carbon Reduction

William Jaeger, professor in the Department of Applied Economics (contributed photo)
William Jaeger, professor in the Department of Applied Economics (contributed photo)

To influence policy, research on climate change must incorporate many disciplines and bridge the divide between the natural and social sciences. I see similarities and important differences in the way that research is done in the environmental sciences and in economics. One similarity is that, like climate science, economics research on climate change has been misrepresented in ways that resemble the arguments of “climate deniers.” For example, the public has heard claims that cap-and-trade (a program that combines emissions limits with permits that can be traded in an open market) will crash the economy and that a carbon tax would just grow the government. But a look at recent economic research on climate policy is instructive. Some highlights:

1)   The power of a carbon tax stems from the way it permeates the entire economy: prices of energy-intensive goods rise in proportion to their carbon release, consumers and producers adjust their choices, new incentives spur technological innovations. By distributing the burden broadly, a carbon tax minimizes the cost. Indeed, estimates suggest carbon tax policies would slow growth by a mere 0.06 percent. Moreover, if the revenues are used to finance reductions in pre-existing income taxes, that additional benefit, or “double dividend,” would lower costs even more and prevent growth in government.

2)   Cap-and-trade has the efficiency of a carbon tax but offers more certainty about emissions limits. Indeed, Europe’s Emissions Trading System (ETS) has locked-in mandatory reductions in the cap that will reduce emissions from 1990-levels by 70 percent in 2050. Economies around the world are implementing programs like the ETS, representing about one-third of global gross domestic product.

3)   Less encouragingly, current U.S. policy promotes biofuels under the Renewable Fuel Standards. Research finds that these programs are extremely costly and would reduce net U.S. petroleum use by less than 2 percent. A carbon tax could achieve 20 times as much for the same cost. Moreover, the estimated indirect effect of biofuel production on land use actually suggests a net increase in global carbon emissions.

The public has heard claims that cap-and-trade will crash the economy and that a carbon tax would just grow the government.

Research in the natural sciences and in economics also differs in important ways. In particular, economics includes both “positive” (descriptive) and “normative” (value-based) analyses. Although this appears to contradict Robert Lackey’s warning that normative science is “a corruption of science and should not be tolerated” (Terra Blog January 23, 2013), we are talking about different things. Normative economics tries to represent society’s values based on established theory and methods – not researcher biases. These theories and methods, with underpinnings from philosophy and elsewhere, can be controversial and need careful qualification. But the aim is sound: to represent people’s values, including “non-use values,” concern for future generations, etc.

Understandably, natural scientists often seek ways to connect their research to important social and policy questions. At times, such efforts can lead to the temptations that Lackey warns about or, in some cases, to ad hoc substitutes that bypass prevailing social science research. In fact, economics can often provide ways to make connections between descriptive, positive science and public policy.

The climate policy research cited above required just this type of integration, as have the Intergovernmental Panel on Climate Change (IPCC) assessments. Today’s research on “coupled natural-human systems” has the potential to integrate the relevant natural and social sciences in ways that produce output about costs, benefits, risk, equity and ecosystem impacts that can be used to develop effective public policies. Indeed, normative economics, in appropriate combination with other social and natural sciences, represents the most direct scholarly channel through which multidisciplinary research can speak to policymakers.