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Whose Climate Damages Should Count?

A new policy proposal uses bad science to undermine the Social Cost of Carbon.

The most important number in environmental economics that most people have never heard of is called the Social Cost of Carbon (SCC). The SCC in plain language is the economic damage a single ton of Carbon Dioxide (or its equivalent) emitted at a certain point in time causes over its life time. And COis the Methuselah of greenhouse gases. Once it’s up there, it causes warming for hundreds of years.

Anthony Hopkins as Methuselah in Noah (2014). Image by Paramount Pictures

Regulators (should) care about this number. When the federal government decides whether to impose or relax policy, it has to conduct a benefit cost analysis of this policy. For example, if you relax fuel efficiency standards that result in higher greenhouse gas emissions or undo regulations like the Clean Power plan, the damages from the additional emissions (should) enter the spreadsheet calculation determining whether this policy is a good idea (benefits are greater than costs) or not. It is important to note that no one ever explicitly pays the social cost of carbon, which is different from a cap and trade system or a carbon tax.  The SCC is used in the benefit cost calculation for rulemaking.

Answer to Life, the Universe, and Everything

So how is this mystical SCC calculated? This is where it gets hard for two reasons. First, you have to calculate the damages a single ton of CO2 causes worldwide, since it causes climate change everywhere. Second, you have to calculate damages from the time of emissions through the following several hundred years due to the long life span of the gas. So you have to calculate global damages over the next 300 or so years. Ain’t no thang you say. Well, all you have to do is figure out how emissions turn into temperature, rainfall and sea level rise changes everywhere and how those translate into damages for all economic sectors over the next 300 years. This includes easier to measure things like corn yields, mortality, energy costs and water consumption and harder to measure things like species migration, consequences of melting glaciers, and changes in violent conflict. Of course this involves the planet scale earth system, and thousands of decisions made by 7.6 billion humans as well as a gazillion plants and animals every single day.

So you clearly have to make some simplifying assumptions. The 2018 Nobel Laureate, and one of my heroes, Bill Nordhaus showed us how to do this through an open source so-called integrated assessment model called DICE. You can download it and play with it. It’s like a carbon slaying version of Fortnite, only it runs in Excel and requires actual brainpower to operate.

There is a history, going back a decade, of government agencies calculating this number. The EPA under George W. Bush started calculating this number. The technical document underlying their analysis raised many meaningful questions, which we still work on today. The Obama administration engaged in a full force effort spearheaded by Michael Greenstone, Cass Sunstein and some good friends at EPA and other agencies, which is commonly known as the Interagency Working Group. They used DICE and two additional Integrated Assessment Models (FUND and PAGE) and fed them similar scenarios to come up with a SCC. Their central estimate for a ton (roughly the emissions of driving a Ford Mustang GT from my house [SF] to Michael’s house [Chicago]) is $42. Which is of course really funny to those of us who realize that 42 is the “Answer to the Ultimate Question of Life, the Universe, and Everything” (HHG2TG). A coincidence, probably, but amazing nonetheless.

So what does this number say? It says that a ton of CO2emitted in 2020 over its lifetime will cause a discounted stream of damages globally worth $42 dollars. What is “discounted,” you ask? A dollar in the future is worth less than a dollar today. In order to account for that, we “discount” the value of damages measured in dollars using a discount rate. The choice of rate tells us something about how much we value the well being of future generations, you know, your grandkids, and their grandkids etc. There is a debate, which is almost as exciting as the “Whitney vs. Mariah” controversy, over the right choice of discount rate. The Obama White House chose a range from 2.5% to 5% and showed results in that range. The higher the discount rate, the lower the damages, since most climate damages are expected to happen later in time. The Obama Administration analysis was reviewed by the National Academies of Sciences and made many suggestions for improvement, which could have been implemented over a few years. The analysis underlying the $42 number has been used in a hundred or so rulemakings and has made us environmental economists proud and relevant yet again!

Discounting Our Grandkids

So here it comes. Under the current administration several “interesting” policy proposals have been made in the environmental arena, that make drilling in the Arctic seem minor. The most significant is the proposed rollback of fuel efficiency standards, which my colleague Jim Sallee so eloquently blogged about. If you read through the thousands of pages underlying the proposed rule, you realize that the Social Cost of Carbon has been slashed from $42 to $1 or $7, suggesting a massive decrease in the damages caused by the same ton of COthat was modeled by the Obama team. So how did that happen? Did we discover that COcontains vitamins? No.

NHTSA, the agency in charge of this policy proposal, did two things. First, they increased the range of discount rates used to between 3% and 7%. This is really high. Am I just grouchy? No. A forthcoming paper in a top journal surveyed experts on the subject and they arrive at a median social discount rate of 2%. The share of experts that stated that the preferred rate is lower than 3% is 67%. Meaning two thirds of people who know something about this think the lowest rate used by the administration is too high. By increasing the discount rate, you decrease the implied damage numbers significantly. More carbon, less bad.

Ignoring that the US Is on Earth

Secondly, NHTSA is using a domestic Social Cost of Carbon. And this is trickier. This means they use the above mentioned integrated assessment models to calculate a number for damages affecting the US only. Sounds reasonable? And this is where I really disagree with the proposal. There are at least three reasons why the domestic number is not fit for rulemaking.

1) The economically correct number is global, since the underlying externality (think damages imposed on humans, critters and plants) is global. The issue here is, if each country uses only domestic damages to design its optimal regulations, each country will emit an inefficiently large amount of greenhouse gases and the world gets inefficiently hot! If the US starts using a domestic number, this is likely to lead other countries to do the same, which might have a domino effect. The very smart Matt Kotchen has written on this.

2)  The simplistic way in which the domestic social cost of carbon was calculated is a crude approximation and leaves out important spillover effects on the United States. For example, US firms own capital and rely on suppliers located abroad. The analysis ignores this. If a climate change-fueled storm takes out all of Apple’s suppliers’ manufacturing facilities in China, this is free to the US according to this analysis. The way the number was calculated also does not take into account national security implications and important effects on trade flows and global commodity markets. Folks at NHTSA might want to chat more often with people at the Pentagon, where they keep issuing reports that climate change poses serious security risks.

3) By using a domestic SCC, the analysis places zero weight on the welfare of the men and women serving in the US armed forces (~450,000) abroad as well as US citizens (~9,000,000) living abroad. If members of the armed forces are exposed to climate change induced events elsewhere, according to this analysis, we do not care as a society. Also, if climate change leads to more conflict, resulting in more troop deployments or decreased supply security, this is not accounted for.

From a scientific modelling perspective,  NHTSA did not implement any of the updates suggested by the National Academies of Sciences, even though many of the suggestions have already been implemented in the peer reviewed literature and are hence readily available. The most glaring omission is the lack of updates to the antiquated damage functions, which are mathematical functions translating changes in climate into economic damages, in the Integrated Assessments used to calculate the SCC.

While some commenters are probably going to send me registered letters saying that I should not use this blog as a political platform, let me save you the postage. This post is not motivated by politics. It is motivated by bad science. We should make policy based on best available science.  A domestic Social Cost of Carbon based on excessive discount rates and outdated models is as far away from best available science as I am from a Nobel prize, which as my colleagues will truthfully tell you is never gonna happen. With certainty.

Maximilian Auffhammer View All

Maximilian Auffhammer is the George Pardee Professor of International Sustainable Development at the University of California Berkeley. His fields of expertise are environmental and energy economics, with a specific focus on the impacts and regulation of climate change and air pollution.

5 thoughts on “Whose Climate Damages Should Count? Leave a comment

  1. Max,
    Thanks for bringing up the domestic social cost of carbon. The Gayer-Viscusi argument has been neglected for too long. (Now that Kotchen has a paper against it, their citations will go up.) But I’m a little suspicious about Matt’s confidence in the relevance of the Folk theorem. Isn’t the idea that a club has to (at least implicitly) agree on a trigger strategy to punish defectors? So the non-cooperative equilibrium can achieve the cooperative optimum only if there is cooperation. Sounds a little tautological to me. That politicians have high discount rates and short time horizons also goes against the relevance of the theorem. There is also the problem of ruling out the green paradox.
    The forthcoming Drupp et al. paper that you mention is useful, but they oversimplify by considering only two conceptual frameworks — normative Ramsey (which they falsely claim is utilitarian) and positive OCC. Both are discussed as first-best shadow prices. But the relevant shadow price should be second-best. Dasgupta has made these points many times. You can also have a normative OCC by recognizing the externalities of capital formation, given the absence of futures markets. The case has also been made that the normative model should include a zero planner’s utility discount rate between generations but a positive discount rate within generations (Endress et al. 2014 REE). Bradford’s 1975 AER paper on project discounting is still relevant. Not only are there multiple conceptual frameworks for choosing a discount rate, but the algorithm for choosing the optimal set of projects may involve the use of both an OCC and an SDR. (And this is all before getting into declining-rate discounting.) Given the lack of consensus about concepts, the 67% agreement that the relevant rate is below 3% may reflect political affiliation more than economics.
    Jim

  2. Since CO2 is an airborne fertilizer and stimulates plant growth in direct proportion to the concentration in the atmosphere acoording to well documented studies in actual; greenhouses there is a benefit to CO2 emissions unlike other greenhours gases.
    A ton of CO2 would generate an additional growth. The Carbohydates generated would have the general formaula of CH2O which has a MW of 30 compared to 44 for CO2 so we could expect 30/44 tons of new growth or 0.68 tons or 1500 lbs, It seems likely that this would have a value greater than $42. ( 2.8 cents/lb) One could take greenhouse tests and do accurate calculations for food crops. Obviously if the CO@ is consumed it is not inthe atmosphere so any damges from warming would have to also take this into account. The system is similar to the classic bath tub calculation as the removal rate increase as the level rises.

  3. In addition to those you have listed, another problem or two:

    1. If a nation only counts the impacts of its emission on itself, then there will be no counting of the effects of one nation’s emissions on other nations, and if one sums globally, the total costed impacts will be far below the actual impacts were one to sum up total impacts on each nation. If one calculates total impacts on one nation of all emissions and divides by the emissions of that nation, there will be very different per ton estimates for each nation, even though a ton emitted anywhere has the same impacts. The proposed approach makes no mathematical or scientific sense, in addition to being bad economics.
    2. In addition to many difficult to calculate and value impacts generally being left out (e.g., how does one value the flooding over of a low lying nation and loss or disruption of its culture, biodiversity loss and the weakening of ecosystem linkages, etc.), but the issue triggering impacts that build up over time are not at all treated well. So, we may right now have already triggered a future sea level rise of at least several meters—how should this be accounted for? How about uncertainties relating to impacts on the marine ecosystem due to ocean acidification? There is just lots that is not nearly adequately treated in existing analyses.
    3. While discount rates might be useful for near-term comparisons, it is not at all clear that they should apply to irreversible and irreplaceable changes such as loss of the Amazon and its biodiversity, etc.? The DICE model used in the first SCC calculation indicated that a 10 C warming would cause something like a 30% drop in global GDP—10 C is warmer than the world has ever been, and were conditions that warm, virtually the whole economy would be involved in recovery from disasters; the discount rate calculation does not really address issues of how the mix of money devoted to each sector might change.

    I wholeheartedly agree there were problems in what was done—just noting you were actually too kind in your criticism.

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