Resilience and the Knowledge Revolution

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Resilience and the Knowledge Revolution

• Pegram Lectures
• Brookhaven National Laboratories
• Graciela Chichilnisky
• UNESCO Chair in Mathematics and Economics
• Columbia University

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Human impact on the environment is uncertain

• CLIMATE CHANGE
• AND
• BIODIVERSITY DESTRUCTION
• These are global problems. They are
  new. Science is uncertain.

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INTERGOVERNMENTAL PANEL ON CLIMATE
CHANGESCIENTIFIC ASSESSMENT OF CLIMATE
CHANGEPolicy-Makers SummaryJuly 1990Under a
Business-as-Usual Scenario of Greenhouse Gas
Emissions?Global Mean Temperature will
increase at a rate of 0.3C per decade(with
uncertainty range of 0.2C to 0.5C per decade)
1C above present by 2025 3C
above present by end of next century?Rate of
increase will be uneven and will vary regionally
(e.g. , higher over land).?Global Mean Sea
Level is expected to rise 6 cm per decade (with
an uncertainty range of 3-10 cm per decade
20 cm above present by 2030 65 cm
above present by end of next century
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? Most of the destruction of the earths
ecosystems is driven by economic
incentives?Forests, where most known
biodiversity resides, are cleared for the
extraction of natural resources (oil, wood
products) or to give way for cash crops and
grazing
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The globalization of the world economy since
World War II has intensified a pattern of
resource use by which developing nations extract
most natural resources, exporting them to
industrial nations at prices that are often below
replacement costs
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To solve the environmental dilemma we must cut
the link between resource use and economic
progress.The key is to achieve a new type of
industrialization, which is not based on resource
exportsa knowledge intensive form of economic
progress.
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? We must incorporate the dynamics of markets in
the management of ecosystems? The market has
become a key institution in the destruction of
the earths ecosystems. No policy that ignores
this fact can succeed.
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MARKETS

• are the dominant institution in the global
  economy.
• As the century turns, the market itself is
  evolving.

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TWO MAJOR TRENDS

• The Knowledge Revolution
• Global Environmental Problems
• Lead to new and fundamental different types of
  markets

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Markets are widely used institutions

• They are decentralized, and can be efficient.
• But global environmental markets trade unusual
  goods privately produced public goods
• Biodiversity is one
• The planets atmosphere is another

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EXAMPLES

• The trading of SO2 in the Chicago Board of Trade
  since 1993, following the Clean Air Act
• Proposed Water Markets in California

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Market for Emission Permits

• Annex I (OECD) nations are assigned allocations
  of property rights on emissions summing up to 5
  below the 1990 level, and they can trade these
  freely among themselves

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? Environmental Markets? Markets for
KnowledgeBoth trade new and different types of
goods Privately Produced Public Goods(PPP)
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The Knowledge Revolution

• In many countries, is leading to a new economy,
  with different environmental problems and new
  opportunities for action.
• Examples Asian Tigers and Little tigers,
  parts of India and Barbados.

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The Knowledge Revolution

• US leads the pack because of its property-rights
  systems and financial markets.
• Japan lost in the software race because of
  property-rights systems.

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? This is not a service economy as previously
thought.? It is a new economy using knowledge
rather than capital as the most important input
of production.? Fossil fuels are now replaced
by information technology
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Sunrise sectors are knowledge intensive
biotechnology, telecommunications, financial
markets, health services and entertainment and
culture.MORE AMERICANS WORK IN BIOTECHNOLOGY
THAN IN THE ENTIRE MACHINE TOOL INDUSTRYMORE
AMERICANS MAKE SEMICONDUCTORS THAN CONSTRUCTION
MACHINERYTHE TELECOMMUNICATIONS INDUSTRY IN
NORTH AMERICA EMPLOYS MORE PEOPLE THAN THE AUTO
AND AUTO PART INDUSTRY COMBINEDFOSSIL FUEL IS
REPLACED BY INFORMATION TECHNOLOGY
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New Economy Examples

• Management, scientific and technical consulting
  services is the fastest growing industry in the
  United States
• The US health and medical industry alone has
  become larger than defense, and also larger than
  oil refining, aircraft, autos, auto parts,
  logging, steel and shipping put together

Source www.acinet.org
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Consumers now spend more on home electronics than
on new cars

• 161 billion a year on home electronics.
• 97.5 billion a year on new cars.

Sources CEA (Consumer Electronics
Association) www.publicpurpose.com
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Productivity is driven by the knowledge sectors

• According to the Bureau of Economic Analysis,
  total US industrial production in 2002-2003
  increased at a 2.17 annual rate, 4.19 during
  2000.
• Take away the production of computers and
  electronic products, and this drops to 1.72
  (2003) or 3.41 (2000).

www.bea.gov Gross Output by Industry in Current
Dollars
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The New Economy Starts to Hit Home

• Increases in personal spending
• Key old economy items
• Motor vehicles 0.3
• Food 0.6
• Major Appliances 1.1
• Clothing 2/3
• Average 0.9
• Key new economy items
• Home telephone services 8.8
• Entertainment recreation services 12.4
• Cable TV 13.4
• Brokerage and other financial services 15.6
• Average 12.5
• Source Business Week, March 23, 1998

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? Today more Americans make semiconductors than
construction machinery? The telecommunications
industry in North America employs more people
than the auto and the auto parts industries
combined
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Sources World Bank and www.OECD.org
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Sources World Bank and PISA
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LEADING THE WAY TO ECO-FRIENDLY PROFITS

• Some major manufacturers have decided to do
  more than reduce waste and clean up pollution.
  They are developing products and processes that
  make it profitable to be environmentally
  friendly.
• Recreational Equipment Inc. (REI) is creating
  an "eco-sensitive" label on clothing to indicate
  items manufactured with a high percentage of
  recycled, rapidly renewable, and/or organic
  fibers.
• SONOCO has created an rectangular paper can
  for Lipton Iced Tea that is 70 recyclable.
• 3M has developed a plastic coating for the
  Navy to replace paint on trucks, ships and
  trains. Its lighter than paint, which leads to
  greater fuel efficiency.
• Levi launched an eco-friendly line of jeans
  in 2007, made from 100 organic cotton.
• S.C. JOHNSON reformulated Raid roach killer,
  converting from a solvent-based to a water-based
  formula. S. C. Johnson also began an initiative
  seven years ago called Greenlist in which it
  rates all the raw materials used in its products
  for environmental safety.

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Honda has become a leader in the automobile
industry with its Civic and Accord Hybrids. Honda
is continuing to manufacture more eco-friendly
popular automobiles. TOYOTA is introducing a
hybrid car that gets 66 mph on a combination of
gasoline and electricity. In 2000, Toyoto
introduced the Toyota Prius, now one of the top
selling cars in the world. Cargill, a major
manufacturer, is converting bio-waste products
into energy at its plants, and created Cargill
Environmental Finance , with the goal of
developing emissions reductions and renewable
energy products around the world.Alcoa is
producing eco-friendly buses for the 2008
Olympics. GE launched Ecomagination in 2005,
which focuses on cutting emissions from GE
manufacturing, and aiming to make more
eco-friendly products in a profitable way.
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The Developing World can leapfrog and avoid
resource intensive industrialization

• The successful Asian tigers relied on
  technology exports, such as consumer electronics
• India has created an software industry worth
  16.5 Billion in USD in exports in 2007, up from
  13.4 Billion in 2006. Largest exported most
  dynamic in the world

Data Source www.dnb.co
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Image Source NASSCOM
32b
Program on Information and Resources Columbia
University
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During the 1990s Silicon Valley tech boom, 25
percent of high-tech enterprises were started by
Indian or Chinese entrepreneurs, according to the
Milken Institute. Chief Executive Magazine,
February 2006
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Knowledge intensive growth is here today.It is
the future.How to achieve the transition with
minimum cost?
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Knowledge and Global Environment Assets

• Are not standard public goods such as law and
  order
• They are mostly produced privately, rather than
  by the government
• They are costly to produce

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Privately Produced Public Goods

• are goods which are not rival in consumption,
  but are privately produced.
• We all produce emissions but the atmosphere is
  the same for us all.
• We produce knowledge privately but can share
  all of it with others without losing it.

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Knowledge and Global Environment are Privately
Produced Public Goods

• Why are they public goods?
• ? Knowledge is not rival in consumption it
  can be shared without losing it

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Similarly

• Global environmental assets such as the carbon
  content of the atmosphere are one and the same
  for everybody on the planet. These are physical
  properties, independent of the economic
  institutions.

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The Paradox of Knowledge

• It is costly to produce
• It can be duplicated without losing it. It can
  be shared at no cost
• Because it is costly, without property rights,
  such as patents, there is no incentive to produce
  knowledge.
• Example Japan has no property rights on
  software, and produces almost none.

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Yet because it can be shared at no cost, any
restriction on the use of knowledge is
inefficient.For examplePatents are
inefficient because they are monopolies
(Stiglitz).We need new systems of property
rights for knowledge.What is the solution?
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Markets for PPP goods are different from the
classical markets.They require new systems of
property rights.
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Traditional MarketsFirst Theorem of Welfare
Economics

• The allocation resulting from a competitive
  market equilibrium with private goods is Pareto
  efficient.
• This theorem is independent of the distribution
  of property rights. For example, all but two
  traders may have zero endowments of property
  rights and the resulting equilibrium is still
  Pareto efficient. This requires all goods to be
  private goods, with rival consumption, and
  privately owned.

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Coases Theorem with Externalities

• When property rights are assigned on
  externalities - the allocation resulting from a
  competitive market equilibrium with private goods
  is Pareto efficient.
• This theorem holds with externalities provided
  property rights are assigned on them then it is
  independent of the distribution of property
  rights (Coase). But this still requires all goods
  to be private goods, with rival consumption, and
  privately owned

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Public goods change matters

• A public good is a good which is not rival in
  consumption this is not an economic or legal
  definition but rather a physical constraint.
• Examples Knowledge , the concentration for CO2
  or CFCs in the atmosphere or the planet,
  available biodiversity is the planet.
• This leads to

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A New First Welfare Theorem in Marketswith
Privately Produced Public Goodsin which
equity and efficiency are closely linked
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Privately Produced Public Goods

• are goods which are not rival in consumption,
  but are privately produced.
• We all produce emissions but the atmosphere is
  the same for us all.
• We produce knowledge privately but can share all
  of it with others without losing it.

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A competitive market with property rights on
knowledge

• An economy has H countries or traders who consume
  N private goods and one public good, Knowledge.
  They trade private goods x Î RN and licenses
  giving the rights to use knowledge, a Î R.
• Trader h has finite resources which are allocated
  to produce either private goods or knowledge.

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For each trader, there is a tradeoff between
producing more private goods and producing more
knowledge. However, more knowledge leads to
higher productivity. Formally
"h, xh fh (ah, a), with fh lt 0,
a Sah and "h , xh gt 0
or a sup ah
ah
a
h Î H
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Countries or traders have property rights Wh Î RN
on private goods and own licenses that allow them
to use knowledge, ah Î R. Traders derive
utility from use of private goods x Î RN .
Through negotiable licenses knowledge is
available to all.
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Traders may use their licenses to access
knowledge or may sell their licenses in the
market. If they wish to use more knowledge than
their licenses allow, they buy more licenses in
the market. Markets for licenses are
competitive.
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Market equilibrium with knowledge Each trader
maximizes welfareMax uh(xh)s.t. xh fh
(ah,a) q (ah ah)the value of consumption
equals the value of production plus the value of
licenses bought or sold, and all markets
clearSah Sah a
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First Welfare Theorem for Markets with Privately
Produced Public Goods

• Theorem
• In and economy with k2 traders, j1 private
  goods and a privately produced public good, there
  exists at most a one-dimensional manifold of
  property rights allocations on the use of the
  public good (allocation of permits) from which
  the competitive equilibrium is Pareto efficient.
• This is the Manifold of Efficient Allocations of
  Property Rights

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Theorem 1(Chichilnisky, Heal and Starrett, 1993)

• There is only a finite number of ways of
  distributing licenses of property rights on the
  use of PPP goods between the traders so that the
  market equilibrium in Pareto efficient.

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Policy

• Those who have fewer endowments of private
  goods must be endowed with more property rights
  on the use of the PPP good. Otherwise, the
  market does not operate efficiently.

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? Efficiency and distribution are connected in
markets with PPP goods.? A measure of equity is
necessary for efficiency.? Markets with
knowledge and environmental assets require equity
for efficiency
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Policy Conclusions

• Markets with knowledge require some equity to
  function efficiently
• It is standard to favor lower income groups in
  knowledge-use. Examples are school subsidies for
  low income groups.
• The system of property rights proposed here is
  different from patents, because there is no
  exclusivity. Patents are exclusive

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Policy Conclusions

• The system proposed here consists of negotiable
  licenses which are accessible to all, together
  with a covenant and a system of property rights
  allocation that favors those with low income.
• There exists microchips (Wave Technology, Inc.)
  that can measure the use of knowledge as required
  for the implementation of these results.

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Traders may use their licenses to access
knowledge or may sell their licenses in the
market. If they wish to use more knowledge than
their licenses allow, they buy more license in
the market.Markets for licenses are competitive
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A VISION OF A NEW ECONOMY

• Very innovative in the use of knowledge
• Very conservative in the use of resources
• Centered on diversity and human capital
• New types of markets based on property rights of
  enviromental use and knowledge
• Offering the prospect of substantial economic
  progress without damaging the ecosystems that
  support life on Earth

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US Policy in the World Economy

• Help create International Markets for Trading
  Property Rights on the Use of Global Commons
• Possibly in conjunction with GATT or WTO
• Ensure Efficient Market Functioning for which
• Those regions with fewer endowments of private
  goods must be endowed with more property rights
  on the common environmental assets. Otherwise
  the market cannot operate efficiently.

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? What are the institutions needed to implement
emission trading?? How to ensure efficiency and
fair trading?
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To answer these questions, a global financial
mechanism must be designed that reflects full
equitable and active participation of developing
and industrial nations
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An International Bank for Environmental
Settlements can help achieve this goal

• the IBES will help to obtain economic value from
  environmental assets without destroying them
• will help bridge the gap between developing and
  industrial countries
• Will provide a forum for adjusting to new
  scientific findings

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The IBES could help organize and broker

• The trading of rights on the use of global
  airwaves
• The trading of rights on greenhouse gases
  emissions and biodiversity use
• The trading of environmental bonds and earth
  stocks
• The trading of options and other derivatives
  based on the above

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The IBES could also

• Securitize profit sharing agreements on genetic
  blueprints
• Securitize profitable investments in aquifers,
  watersheds, biological soil enhancement and
  fisheries
• Provide bridge financing and credit enhancement
  facilities for all the above

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The case for an International Bank for
Environmental Settlements (IBES)

• Based on new economic findings on the existing
  proposal for trading carbon permits, an IBES can
  be created which
• ?will be self-financing
• ?will offer a combination of markets solution and
  continuing multilateral negotiations

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An International Bank for Environmental
Settlements (IBES)

• GIVES ACCESS TO INTERNATIONAL CAPITAL MARKETS FOR
  FUNDING CONSERVATION
• TO ALLEVIATE DEFAULT RISKS
• CREDIT ENHANCEMENT BY WORLD BANK OR GEF

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The population explosion since World War II put
stress on water resources globally Clean water
is the most scarce resource around the world
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? IBES provides an institutional framework that
combines the best aspects of free markets and
multinational policy? IBES can offer a
continuing way to draw capital from global
financial markets to support global environmental
policy? IBES will regulate and monitor
compliance of trading of carbon permits globally
(borrowing, lending and derivatives)
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Policies To Avert Climate Change

• Policies to prevent climate change focus mainly
  on curtailing emissions of carbon dioxide (CO2),
  the most important greenhouse gas.
• ? Regulatory Approaches
• ? Market Approaches
• --- Carbon Taxes
• --- Joint Implementation
• --- Tradable Permits

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Policies To Prevent Climate Change

• Carbon Taxes
• A mechanism to reduce carbon emissions is a
  carbon tax a tax levied on all fossil fuels in
  proportion to their carbon contents.
• ?By raising the cost of fuels and energy
  intensive products, this tax would discourage all
  fossil fuel use in proportion to their carbon
  contents and encourage the development of less
  carbon-intensive alternatives.
• ?A recent statement by leading economists favors
  taxes over a regulatory approach. However, taxes
  increase governments intervention in the economy
  and are out of public favor in todays
  market-oriented environment

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Policies To Prevent Climate Change

• Joint Implementation
• This is a mechanism that allows a firm in one
  country to invest in a project that reduces
  emissions in another country, and to receive
  credit for those reductions at home. It was
  proposed by President Clinton on October 22,
  1997. An example might involve Norway and Poland.
  International joint implementation of CO2
  emissions reductions would allow a utility in
  Norway to achieve an emissions reduction by
  contracting to pay a factory in Poland to install
  more fuel-efficient furnaces

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Policies To Prevent Climate Change

• Tradable Permits
• ? This is the most market-oriented and
  efficient approach, which is already used for
  sulfur dioxide permits in the Chicago Board of
  Trade
• ? One argument for tradable permits is the
  perceived political difficulty of proposing a
  change in the tax structure
• ? The most difficult issue in the use of
  tradable permits is how to allocate them to
  potential users. For small fuel users tradable
  permits could cause administrative burdens

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Policies To Prevent Climate Change

• Carbon taxes or tradable permits increase the
  cost of energy and could reduce economic growth.
  Different models show different impacts.
• Despite the complexity of the models, only a
  handful of easily understandable assumptions are
  important in determining the simulation results.

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THE PREDICTED IMPACTS ON GDP IN 2020 OF
STABILIZING CO2 EMISSIONS AT 1990 LEVELS THE
EFFECT OF CHANGING UNDERLYING ASSUMPTIONS
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The International Bank for Environmental
Settlements

• Win-Win Solutions
• ? Uncertain though they are, there are costs
  associated with doing nothing in the face of
  rising greenhouse gas concentrations.
• ? The few models that do take expected damages
  from climate change into account predict that a
  carbon tax set at an appropriate rate, with
  revenues recycled efficiently back into the
  economy, actually improves economic welfare
• (Nordhaus and Young, 1996 Jorgenson et al.,
  1995 Nordhaus, 1994, 1993).

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GDP LOSS (1990-2010) UNDER ALTERNATIVE RECYCLING
OPTIONS
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A Win-Win Proposal

• A market-based approach
• Global Trading, Clearing and Settlement of
  Tradable Carbon Permits
• International Bank for Environmental Settlements
  (IBES)

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The International Bank for Environmental
Settlements

• A market-oriented institution
• Acts as an intermediary, organizes and regulates
  global trading of carbon permits and other
  environmental assets
• Governance and operating budget decided by the
  nations of the world

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The International Bank for Environmental
Settlements

• The IBES Mandate
• ? To enhance wealth generation while protecting
  the environment.
• It will accomplish this by
• ? Providing liquidity and economic return from
  environmental assets (such as forests) while
  ensuring judicious use.

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The International Bank for Environmental
Settlements

• How IBES Operates
• Preserving national sovereign rights, IBES
  will
• - Act as an intermediary in multilateral
  borrowing and lending of permits
• - Trade options on carbon permits in the
  future
• - Clear and settle multinational transactions
• - Ensure market integrity and efficient price
  mechanisms (such as SEC, CFTC)

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The International Bank for Environmental
Settlements

• How IBES Operates
• - Once the worlds ceiling of emissions is
  agreed upon, permits can be allocated
  following a sliding rule
• - Starting from todays usage, the rule moves
  towards an incentive system allocating more
  to those who emit less
• - Auctions can be used to allocate permits
  efficiently

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The International Bank for Environmental
Settlements

• The IBES A Win-Win Solution
• The industrial nations have more capital. The
  developing nations are richer in the
  environmental account. They emit less carbon and
  have most of the worlds forests and 80 of its
  biodiversity. According to the economic models,
  there are gains to be made from trade while
  insuring judicious use of environmental assets.