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Climate change policies

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Title: Climate change policies


1
Climate change policies
  • Session 9
  • Macroeconomic Concepts and Issues
  • MSc Economic Policy Studies
  • Alan Matthews

2
Learning objectives
  • Valuing the threat of global warming and the
    social cost of carbon
  • Implications of the EUs climate change targets
    for the Irish economy
  • How can Ireland meet its GHG emission reduction
    targets at least cost?

3
Valuing the social cost of carbon
  • Section 1

4
The science of climate change
  • What is the sustainable level of emissions?
  • Scientific consensus on global warming
  • Climate is warming
  • The cause, with high probability, is GHGs
  • These emissions are in large part due to human
    behaviour, including fossil fuel consumption
  • IIEA Occasional Paper on science of climate
    change
  • IPCC Working Group 1 report summary for
    policymakers

5
Assessing the impact of climate change
  • Projections of CO2 concentration in atmosphere
  • General circulation models (GCM) models
  • Expected temperature and precipitation effects
    for different regions
  • CO2 concentrations now 380 ppmv compared to
    pre-industrial levels of 280 ppmv
  • Projected to double by 2100 leading to
    temperature increases of between 1.8 to 4
    (faster warming when all GHGs included)
  • To have high probability of staying within the
    2 target, mainstream view is to limit C02
    concentration to 400 ppmv (50 probability at 450
    ppmv)

6
Source EEA SOER 2010
7
How likely are these trends?
  • CGM models fit observed data from the past quite
    well
  • But their weakness is that the physics of natural
    climate change is poorly understood and therefore
    there is uncertainty about model predictions
  • Others argue that models take inadequate account
    of feedback effects and threshold mechanisms
    which could accelerate climate change

8
Integrated Assessment Models (IAMs)
  • Seek to translate climate impacts into monetary
    damages
  • Benefits of climate policy represent avoided
    climate impacts that would otherwise cause
    damages to society in the future.
  • Used to calculate Social Cost of Carbon (SCC)
    (monetary estimates of the damage done to society
    in emitting one tonne of carbon today) for use in
    domestic CBA decisions
  • Used to determine optimal policy using form of
    global cost-benefit analysis.

9
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10
Areas of uncertainty in IAMs, leading to
different results for social cost of carbon
11
Impact of differences in climate sensitivity
  • Models differ in their climate sensitivity, the
    long-term temperature increase associated with a
    sustained doubling of carbon dioxide
    concentrations in the atmosphere
  • The higher the climate sensitivity, the greater
    the damages
  • IPCC (2007) presented likely range for climate
    sensitivity of 2-4.5C, with best estimate of 3C.

12
Differences in climate impacts
  • Impacts of climate change are modeled using
    climate damage functions for each region
  • Damage functions provide monetary estimates of
    climate impacts as a function of average
    temperature increase, often expressed as
    percentage loss of GDP
  • Generally, damages assumed to rise non-linearly
    with temperature different models assume
    different curvature and steepness of the rising
    damage function
  • Damage estimates often based on single study
    which is then scaled up or down for application
    to other regions

13
Differences in adaptation assumptions
  • The damages of global warming are a function of
    how easily societies can adapt to higher
    temperatures
  • The lower the adaptation costs, the lower the
    benefits of avoiding climate change

14
Differences in discount rates
  • Some method of aggregating gains and losses from
    different time period in required.
  • In the prescriptive approach presented by
    Ramsey (1928), the discount rate r can be
    expressed as
  • r ? ?g
  • where ? is the pure rate of time preference, ? is
    the negative of the elasticity of the marginal
    utility of consumption (the rate at which
    additional consumption provides smaller increases
    in welfare) and g is growth rate of per capita
    consumption
  • The descriptive approach uses the market rate
    of interest
  • Extensive debate about the appropriate values on
    economic and ethical grounds

15
Discount rates and equity weights
  • Higher rate of pure time preference lowers
    calculations of benefits of climate change
    policy, because future climate change damages are
    discounted more heavily
  • Value of the marginal utility of consumption can
    be varied to reflect equity weights (giving more
    weight to impacts in poor regions)
  • Using purchasing power parity rates to aggregate
    damages across regions (Stern, 2007) gives
    greater weight to impacts in poorer regions where
    majority of impacts will occur, producing effect
    similar to equity weighting

16
Social cost of carbon estimates (Tol, 2009)
Note SCC estimates can be converted into CO2e
costs by dividing by 3.66
17
  Climate change is a moral problem. The main
reason to reduce greenhouse gas emissions is a
concern for faraway lands (Schelling 2000),
distant futures (Nordhaus 1982), and remote
probabilities (Weitzman 2009). The people who
emit most are least affected by climate change,
and the benefits of their abatement would be
diffused. Carbon dioxide dwells in the atmosphere
for decades and the effects on temperature and
sea level play out over even longer periods. On
central projections climate change and its
impacts are a nuisance for rich countries and a
problem for poor countries. But there is a chance
that things will go horribly wrong. If you do not
care about risk, the future, or other people,
then you have little reason to care about climate
change. Source Anthoff and Tol, 2010.
18
Critique of SCC calculations
  • Conventional economic analysis is rapidly
    replacing the arguments of the climate skeptics
    as the principal justification for inaction on
    climate change (Ackerman, 2008)
  • Interests of future generations should be more
    highly valued (ethics)
  • Prevention of worst-case risks should be
    prioritised more than average outcomes
    (insurance)
  • Some benefits cannot be given monetary values
  • Some costs are better than others

19
Costing the externality due to carbon emissions
  • Social cost of carbon
  • Measures the full global cost today of an
    incremental unit of carbon emitted today, summing
    the cost of the damage it imposes over its
    lifetime in the atmosphere
  • Market price of carbon
  • The value of traded emission rights in a market
    given policy constraints on rights supply
  • Marginal cost of abatement
  • Reflects the cost of reducing emissions rather
    than the damage imposed by creating emissions
  • Under restrictive assumptions the three measures
    will be broadly equal, at the margin.

20
Policy approaches
  • Command-and-control
  • Use of regulation
  • Market-based approaches
  • Carbon tax
  • Cap and trade
  • Advantages and disadvantages

21
The economic perspective
  • Once target level of emissions set, what is the
    least cost abatement strategy?
  • Government policies often industry and
    technology-specific
  • Economists favour uniform price signals, on the
    basis that the same value is attached to each
    unit of emission reduction, whatever the source
  • Optimal policy is a carbon tax (or equivalent
    cap-and-trade) at a low initial rate, increasing
    subsequently in real terms

22
Regulation vs tax to reduce pollution
Profits, costs of pollution, /unit
MP
MSC
Tax
Q
Q
Output of paper mill
23
Rationale for market-based interventions
  • To correct for negative market externality
  • Huge differences in abatement costs across
    different options
  • Use of market-based policy instrument can achieve
    GHG emission reductions at lower cost than
    command-and-control approach
  • Desirability of a uniform tax on all emitters as
    the marginal value of abatement is equal
  • Channels of market-based approaches
  • Firms adapt by switching from higher to lower
    carbon fuels and invest in energy saving
    technologies
  • Consumers adapt by purchasing less
    energy-intensive goods and change behaviour in
    ways that conserve energy
  • GHG pricing policies also provide incentives to
    develop new technologies

24
Comparison of GHG tax versus Cap and trade
  • Both are market or incentive-based systems
  • Under perfect information, both approaches would
    produce the same overall level of emissions at
    the same level of aggregate costs
  • But uncertainty over future cost of reducing
    emissions can lead to different outcomes
  • Compare approaches wrt environmental
    effectiveness, cost effectiveness and
    distributional equity

25
Environmental effectiveness
  • Cap and trade provides emissions certainty,
    whereas total emissions abatement effect of a tax
    is uncertain when tax is set.
  • Certainty may be important in climate change if
    there are systemic thresholds
  • Cap and trade provides certainty on emission
    outcomes, but cost of meeting targets is
    uncertain at firm level
  • Competitiveness effects and leakages?

26
Cost effectiveness
  • A tax is more flexible and allows firms to
    minimise their compliance costs over time,
    although Cap and trade can be designed to mimic
    this (e.g. shifting emissions through time)
  • Volatility of permit prices under Cap and trade
    schemes
  • Tax raises revenue, although can be mimicked in
    Cap and trade if permits are auctioned
  • Carbon tax could have positive effects on GDP,
    depending on how revenues are used
  • Grandfathering permits can gain political
    acceptability, but at cost of positive growth and
    distributional effects from recycling revenue
    (inframarginal exemptions do the same for carbon
    tax).

27
Distributional consequences
  • Not obvious the poor are worst hit by carbon
    taxes (motoring vs home heating)
  • But proportionately poor will be hit more
  • Distributional issues can be addressed by
    compensation (easier to finance under carbon tax)

28
The International response
  • Section 2

29
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30
UNFCCC RIO 1992
  • UNFCCC came into force 1994
  • Overall objective of stabilisation of GHG
    concentrations in atmosphere at a level that
    would prevent dangerous anthropogenic
    interference with the climate system
  • Establishes principle of common but
    differentiated responsibility
  • Commits to establishing inventories and reporting
    standards for GHG measurement
  • Commits to launching national strategies to
    mitigate GHG emissions
  • And to cooperate in preparing for adaptation to
    climate change
  • Convention governed by Conference of Parties (COP)

31
Kyoto Protocol 1997
  • Annex 1 (developed) countries agreed to reduction
    targets
  • Groups (bubbles) of countries can manage their
    efforts in unison
  • Defined three flexible mechanisms
  • Joint Implementation, Clean Development Mechanism
    and Emissions Trading
  • US refused ratification
  • EU ratified in 2002 and Protocol came into force
    in 2005 following accession of Russia

32
Copenhagen 2009
  • Agreed the Copenhagen Accord
  • Set long term goal of limiting global warming to
    2 degrees Celcius
  • Called for new multilateral climate fund and set
    goals of mobilising 30 billion in public finance
    2010-2012 and 100 billion in public and private
    finance in 2020
  • Further defined how countries actions are to be
    reported and verified
  • Called on countries to list mitigation pledges
    (economy-wide targets for developed countries,
    mitigation actions by developing countries)

33
The eu response
  • Section 3

34
Initial EU responses
  • Committed to goal of limiting global mean
    temperature rise to 2C
  • Accepted -8 target under Kyoto for EU-15
  • Burden-sharing agreement
  • Penalties
  • Introduced ETS in Jan 2005
  • First (pilot) phase 2005-2007
  • Second phase 2008-2012
  • Countries targets and strategies set out in
    National Allocation Plans which must be approved
    by Commission

35
EU ETS experience
  • Initial pilot phase 2005-07. ETS covers about
    40-50 of EU emissions.
  • Combination of generous allowances and abatement
    produced an initial price of 30 per tonne, but
    fell to zero in late 2007, some recovery since
    then.
  • Market value of allowances was passed through in
    electricity prices, even though allowances
    distributed free, resulting in considerable
    windfall profits
  • The Linking Directive allows firms to meet some
    of their obligations by purchasing certified
    emission reductions achieved in projects in
    developing countries and other developed countries

36
Price of ETS allowances
Source www.eex.com/en
37
EU Climate change 202020 package Dec 2008
  • Overall EU target 20 reduction by 2020 (relative
    to 1990 levels)
  • Increased to 30 if there is new international
    agreement
  • Reduction effort split between ETS and non-ETS
    sectors
  • ETS reduction (EU-wide) of 21 by 2020 (compared
    to 2005)
  • Average EU non-ETS reduction target of 10 in
    2020 (compared to 2005)
  • Overall, averages out at 14 reduction (compared
    to 2005) and 20 reduction (compared to 1990)
  • Non-ETS effort is shared among EU countries
    according to a formula based on GDP per capita.
  • 20 energy from renewables by 2020
  • 20 increase in energy efficiency by 2020

38
Long-term targets
  • Spring European Council 2007 meeting agreed
    indicative EU targets of 60-80 emission
    reductions by 2050
  • Economic activity by then needs to be largely
    carbon-free
  • Implications?

39
Irish targets for ghg emission reductions
  • Section 4

40
Irish policy commitments
  • Second highest per capita emitter in EU
  • EU Kyoto target was to reduce emissions by 8 by
    2012 over 1990
  • Under EUs burden-sharing agreement, Irelands
    target was to limit to 13 increase
  • Irelands emissions in 2006 25.5 above 1990,
    almost 13 above its Kyoto target

41
Source EPA 2010
42
Current situation
  • EPA is charged with producing emission
    projections annually
  • NCCS targets distinguish between (a) baseline (b)
    baseline with existing measures and (c) baseline
    with additional measures (post 2006)
  • Under With Additional Measures scenario,
    government purchasing requirement estimated to be
    12.7mt CO2e over Kyoto period.
  • NTMA has acquired 8.3mt credits. Gap of 4.4mt to
    be met from New Entrants Set-aside of around 5mt
    in ETS sector. Therefore EPA views it as unlikely
    that further credit purchases will be required.
  • Impact of economic recession on next updates?

43
Source EPA 2010
44
Source EPA 2010
45
2020 targets
  • For ETS sector Ireland is allocated 88 of its
    2005 emissions which will be auctioned starting
    2013
  • The target for Ireland for non-ETS sectors is to
    reduce emissions by 20 in 2020 relative to 2005
    levels the limit has been provisionally
    calculated by the EPA as 37.1 Mtonnes of CO2e.
  • In addition, Member States must annually limit
    non-ETS greenhouse gas emissions in a linear
    manner between 2013 and 2020, including by making
    use of the flexibilities provided for in the
    Effort Sharing Decision

46
ESRI projections for ETS sector, low growth
scenario
Source ESRI 2010
47
Source EPA 2010
48
Climate change bill
  • Set 2020 reduction target of 30 below 2005
    emissions (12 below 1990 emissions)
  • Problematic as separation of ETS sector would
    oblige Ireland to meet the gap between the EU
    target (-20) and the Irish target (-30) through
    emission reduction in the domestic non-ETS sector
  • Very ambitious targets for 2030 (40 below 1990
    levels) and 2050 (80 below 1990 levels)
  • National Climate Change Expert Advisory Body
  • Uninformative Regulatory Impact Assessment

49
ESRI projections for non-ETS sector, low growth
scenario
50
Irish Climate change policies
  • Section 5

51
National Climate Change Strategy
  • Sets out in detail how Ireland will meet its GHG
    commitments in period 2007-2012
  • Carbon Fund established in 2007 managed by NTMA
    to buy Kyoto Units with funding of 290m
  • NCCS does not deal with post-2012 situation
  • Programme for Government commitment to reduce GHG
    emissions by 3 p.a. for period of government.
  • Cabinet Committee on Climate Change and Energy
    Security

52
Climate strategy
  • By 2020, Ireland will have achieved
  • 20 improvement in energy efficiency across all
    sectors
  • 33 energy end-use efficiency savings target for
    the public sector
  • 40 renewable electricity (RES-E) share
  • 12 renewable heat (RES-H) share
  • 10 renewable transport (RES-T) share (including
    10 electric vehicles penetration target)

53
Carbon budgets
  • First carbon budget presented in 2007
  • Objectives to integrate climate change into
    budgetary policy, to assess progress towards
    targets and to help efforts to increase public
    understanding
  • Measures introduced include
  • Carbon tax
  • Reform of motor tax regime
  • New building regulations for new homes
  • New national energy efficiency standard for
    lightbulbs
  • Residential home insulation scheme grants

54
Reading a marginal abatement cost curve
Issues Need to avoid double counting with
successive measures Considers
technical but not behavioural changes (e.g. modal
shift in transport)
Source McKinsey 2009 for SEAI
55
Source McKinsey 2009 for SEAI
56
Source McKinsey 2009 for SEAI
57
Policy outlook - ETS
  • Removal of ETS sector from national inventories
    changes the ground rules
  • Irish tradable (ETS) sector covers around 34 of
    Irish emissions (41 across EU)
  • Reduction requirement across EU is -21 or -1.74
    p.a.
  • Price of CERs will reflect abatement cost to
    industry
  • Irish operators exposed to competitive pressures
    will continue to receive free allocation of
    permits (to extent to be decided)
  • The measures to increase renewables share in
    energy and improve efficiency of powergen sector
    do not count in national emission inventories

58
Policy outlook non-ETS sectors
  • 66 of overall Irish emissions, mainly transport
    and agriculture
  • Reduction of 20 on 2005 levels by 2020
  • Use of flexible mechanisms limited to 3
  • Huge challenge, even if less than PfG target and
    targets set out in NCCS
  • Future position of carbon sinks still unclear
  • Important flexibility introduced in EU package to
    allow (some) trading in non-ETS sectors which
    will cap marginal cost of abatement in Ireland
  • Differences in marginal cost of abatement in the
    two sectors could create incentives to migrate
    emissions (e.g. through electrification)

59
Renewable energy
  • EU targets 16 in total final energy use and
    10 in transport use
  • Controversies over use of first-generation
    biofuels
  • Doubts over penetration of electric vehicles and
    their impact on emissions
  • Growing concern in other EU MS about cost of
    meeting renewable targets

60
Designing a carbon taxTol et al 2008
  • What level of tax?
  • Set equal to ETS permit price as then uniform tax
    applied to all emission sources
  • Who should be taxed?
  • All emission sources except those covered by the
    ETS
  • What is expected revenue?
  • 500 1,400m
  • What to do with the revenue?
  • What are macro-economic implications?
  • What are the effects on emissions?
  • Substitution vs growth effects

61
Designing a carbon taxTol et al 2008
  • What will be distributional consequences?
  • Poor/rich Urban/rural
  • Possible to compensate relatively easily
  • How to tax internationally traded goods and
    services?
  • ETS industries cement and aluminium
  • Non-ETS sectors agriculture
  • What about fuel tourism?

62
Assessing the NCCS
  • Preference for quantitative targets vs economic
    instruments
  • Within economic instrument category, very high
    reliance on subsidies (50 of overall total
    emissions) how to finance?
  • Critique of individual measures McCarthy and
    Scott (2008)

63
Assessing the NCCS
  • One-third of emissions regulated by tradable
    permits mainly power
  • But double regulation (subsidies for renewables,
    peat)
  • One-third of emissions regulated through carbon
    tax and other instruments
  • But exemptions for coal and peat for home
    heating, subsidies for renewable heating
  • One-third of emissions not regulated

64
Adaptation issues
  • Various recent reports
  • Forfás , Adaptation to Climate Change Issues for
    Business, 2010
  • Irish Academy of Engineers, Critical
    Infrastructure Adaptation to Climate Change,
    2009
  • EPA, A Summary of the State of Knowledge on
    Climate Change Impacts on Ireland, 2009
  • Sweeney et al, Climate Change Refining the
    Impacts for Ireland, 2008

65
Follow up and further information
  • Institute for International and European Affairs,
    Climate Change Group
  • EPA, Climate Change
  • DOEHLG, Climate Change
  • European Environment Agency, Data Viewer
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