Valuing Your Grandchild—The Debate Over Climate Change Discount Rates

Ronald Bailey | December 5, 2006

The Economist has an interesting article evaluating the arguments of critics of Britain's Stern Review on the Economics of Climate Change. One important question is should poor people living today pay to prevent climate change that would boost the incomes of far richer future generations?  To wit:

Mr Nordhaus [Yale University economist William Nordhaus] retorts that there are other ways to look at the ethics of inter-generational investment. One option would be to take into account the expected wealth of future generations. Global per capita consumption is increasing by 1.3% a year in real terms. At that rate today's average income per head, of $7,600, would rise to $94,000 by 2200. If climate change were to reduce global income by 13.8% over the same period (a figure derived from Stern), the average income per head would rise to $81,000 rather than $94,000. On that basis, says Mr Nordhaus, it would be fairer to constrain the income of future and richer generations, than to impose additional costs on a poorer generation today.

Mr Nordhaus does not contend that the world should do nothing about greenhouse-gas emissions. But he questions the confidence with which the Stern report concludes that lots of things should be done, and fast. The “central questions” about any policy response to global warming, says Mr Nordhaus, “how much, how fast, and how costly―remain open”. As far as he and like-minded critics are concerned, the Stern report has informed the debate about climate change, but has not come anywhere near resolving it.

My initial thoughts on the Stern Review are here.

Comments

|12.5.06 @ 12:24PM|#

On that basis, says Mr Nordhaus, it would be fairer to constrain the income of future and richer generations, than to impose additional costs on a poorer generation today.

This still does not grasp the essential truth that adding costs on a poorer generation today makes the future and richer generations less rich.

Don't look at it as insurance: Look at it as an investment decision. Knowing what we know now, paying today to stop global warming tomorrow is simply a bad investment and would prove today's generation poor stewards of humanity's wealth as its handed to the next generation.

|12.5.06 @ 12:50PM|#

I am also skeptical -- and yes, fearful -- of drastic changes based on an unresolved debate. It seems to me as if a reasonable strategy would be for entrepreneurs in the free market to expore and exploit greener substitutes for current methods and mechanisms -- electric cars for instance, and renewable energy production. The market can be effective to make a big dent in whatever portion of the problem that human activity may be causing. Look how quickly people flocked to "low carb" and "low fat" products. For that matter, look how quickly the US (and world) market moved toward smaller, fuel-efficient autos after the oil embargo a few decades back. Let the market work while we are working to better understand the causes and effects of global warming, as well as our own ability to exacerbate or improve the situation.

Regarding the wealth of future generations, has anyone been able to rule out the possibility that a warmer planet might actually provide a better environment for homo sapiens (excepting those with current beachfront property, I guess)? Who is to say that our descendants can't reap a "climate dividend"? And that brings up another point worth pondering:

The big problem I have with allowing government to control our behavior in the case of global warming is that today, they want us to reduce it. Tomorrow, perhaps after finding global warming benefits for the population and economy that we cannot foresee now, they may want us to start INCREASING global warming. The levers and strings of power that we allow to be put in place today will likely be available then. But by then, there won't be any question of individual judgment or volition in the matter. We will all have to go along with the program. Why would we want our government to be that powerful?

fyodor|12.5.06 @ 12:53PM|#

One important question is should poor people living today pay to prevent climate change that would boost the incomes of far richer future generations?

Is that worded as intended? Seems to imply that "climate change" would boost incomes of future generations??

Yes, depriving people of income for the benefit of future generations is problematic, and MikeP explains one reason why. However, if global warming genuinely threatens people and their pocketbooks, and my guess is that it would, then that kind of nullifies MikeP's point, other than to point out one must consider all the pros and cons, which of course would be very difficult as both sides of the equation would involve mucho speculation.

|12.5.06 @ 1:05PM|#

Sorry, fyodor, your six of one, half dozen of the other does not nullify my point. We are talking about compounded GDP growth over a long time period. It takes an awfully strong argument -- one that is not yet close to being made with regard to global warming -- to beat an exponential.

Using the numbers I used on the first thread on the Stern Report...

In particular, if the world GDP grows at a rate of 4% per year, in 100 years it will be 50 times as big as it is now. If 1% of GDP is taxed to mitigate global warming without bringing immediate return, the resulting 3% GDP growth rate will make GDP in 100 years only 20 times that of today.

So, if 20% of GDP in 2106 is lost to global warming effects, that still leaves 40 times today's GDP to play with. If the world spends the 1% per year to mitigate those global warming effects, those in 2106 will have only 20 times today's GDP to play with.

At lower GDP growth rates, the absolute difference in 100 years is even more profound.

So why is it even considered sane to spend any effort to stop global warming, even to prevent the worst case scenario?

R C Dean|12.5.06 @ 1:13PM|#

Not at all clear to me that global warming will reduce the wealth/income of the world in 2200, anyway.

Sure, we'll lose some housing stock and infrastructure along the coasts, but we were going to have to replace all that by 2200 anyway.

|12.5.06 @ 1:41PM|#

The reason we are wealthier now than previous generations is largely the result of our ability to take advantage of the compounded investments of previous generations.

Why should the Baltimore and Washington company build a canal on their own dime, if Future Baltimore and Washington company, ten years hence, will be worth ten times as much? Because Future Washington and Baltimore won't be worth 10x as much if contemporary B&W doesn't build the canal.

RC, I have to respond, because your comment is such a shining icon of intellectual failure that I can't stop staring at it. I'm going to have to replace my car in ten years anyway, yes, it's true. It's still going to take a bigger bite out of my wallet if I have to do so in two years instead of ten, or if I have to buy a new car four times in the next ten years instead of once.

fyodor|12.5.06 @ 1:45PM|#

We are talking about compounded GDP growth over a long time period. It takes an awfully strong argument -- one that is not yet close to being made with regard to global warming -- to beat an exponential.

Well, how much harm to GDP growth in the first place is part of that equation, and that's why I advocate a carbon tax that trades off an equivalent payroll tax cause I think that's a much more efficient and growth friendly approach than for beaucrats to issue arbitrary regulations from on high, which is what we'll likely get otherwise. BTW, obviously any income loss to global warming would compound itself over time just as much.

Sure, we'll lose some housing stock and infrastructure along the coasts, but we were going to have to replace all that by 2200 anyway.

RC, you speak very vaguely and glibly of this "we", much as I've heard central planners do. Individuals being forced to move their homes and businesses and farms will suffer real costs that your all inclusive "we" doesn't recognize.

|12.5.06 @ 1:48PM|#

I could see how "global warming" could hurt a lot of people at some point in the future, I think. :) But a couple of things:

1) It's not like the flood waters are going to rise in such a way that it wipes out costal cities like a tsunami. There will be plenty of time to move farther inland.

2) The best way to get the environment cleaner (however you'd like to define that) is to continue technological development and also to try and get the poorer, less technologically advanced places up to speed. You're certainly not going to do that by enacting all sorts of costly regulations.

I mean, as someone who grew up an outdoorsman, it saddens me to see pristine areas polluted, as a human being, it saddens me to know that people died of "black lung" (to use a cheesy, perhaps not even that accurate example) during the industrial revolution, but at the same time, it wasn't heavy-handed regulations that were entirely responsible for turning the 1st World around after that necessary phase of human evolution.

I just think that with all the examples of tragedies of the commons you see around us (polluted rivers came up at a cocktail party convo recently, and I used it as an perfect example of a commons tragedy - since no one had any ownership of the water, what did they care if they dumped toxic materials in there?), not to mention how ignorant we were at one time (polluted rivers will fit as an example again), just what in the world are people proposing we do about it (GW) without throwing a massive monkey wrench into wheels of progress?

|12.5.06 @ 2:14PM|#

Lowdog,

MEAN sea levels will rise gradually, but your conclusion does not follow. Rising sea levels will mean that storm events cause dramatically worse flooding. It isn't that the water will be an inch higher on a calm day, but that it will be much higher on bad days. Combine this with increased storm activity and localized changes in weather patters, and we are talking about major storm events causing great destruction.

And given the sources of greenhouse gasses, your second argument falls flat as well. How would adding three billion people to the fossil fuel consumption economy reduce global warming?

R C Dean|12.5.06 @ 2:20PM|#

The reason we are wealthier now than previous generations is largely the result of our ability to take advantage of the compounded investments of previous generations.

Partly that, but investments don't compound themselves. We are wealthy now because we have made our inheritance grow in our lifetime.

RC, you speak very vaguely and glibly of this "we", much as I've heard central planners do. Individuals being forced to move their homes and businesses and farms will suffer real costs that your all inclusive "we" doesn't recognize.

Global warming will force some economic change, of course, but like most change, especially sufficiently slow-moving change, it will create winners and losers. Sure, some individuals will be worse off (including perhaps those who were based on the coast), but some will undoubtedly be better off as well. I'm just trying to get a feel for whether there will be net losses, globally speaking. Color me unconvinced, so far.

About the only sure losses I see are along the coasts (assuming a worst case scenario). Taking a very high-level, long-range view, I'm not even sure those losses are as bad as they look, because of the time frame involved. If you tell me that my car is going to have to be replaced tomorrow, I'm pissed, because it has a lot of work left in it, and I would call that a loss. If you tell me that it will have to be replaced by 2200, I'm pretty frickin' blase about it, and wouldn't really call that a loss.

R C Dean|12.5.06 @ 2:21PM|#

Rising sea levels will mean that storm events cause dramatically worse flooding. It isn't that the water will be an inch higher on a calm day, but that it will be much higher on bad days. Combine this with increased storm activity and localized changes in weather patters, and we are talking about major storm events causing great destruction.

As evidenced by our catastrophic hurrican season this year, as widely predicted by the global warmingmongers.

Oh, wait. . . .

|12.5.06 @ 2:39PM|#

joe - I hear you on both accounts, but are we sure it'll be another 3 billion people and are we sure we'll still all be using fossil fuels?

And I will once again go back to the modeling problem. There is no way in hell that our computer models can tell us exactly what will happen in the future.

Plus, what about the year 2500? Perhaps by that time we'll have moved portions of the human population to other places in the solar system and will be using an as-yet discovered source for energy.

I just do not see what we can do about it now that won't have a plausibly worse effect than global warming. Not that I'm not open to suggestions. :)

Sam Franklin|12.5.06 @ 2:50PM|#

From today's reuter's:

Richest 2 percent own more than half the world

By Tarmo Virki

HELSINKI (Reuters) - Two percent of adults command more than half of the world's wealth, while the bottom 50 percent possesses just 1 percent, according to a U.N. development institute study released on Tuesday.

While income is distributed unequally across the globe, the geographical spread of wealth -- which includes property and financial assets -- is even more skewed, the study by the World Institute for Development Economics Research of the UN University showed.

"Wealth is heavily concentrated in North America, Europe and high-income Asia-Pacific countries. People in these countries collectively hold almost 90 percent of total world wealth," the survey said.

Who is going to help who now?

|12.5.06 @ 3:00PM|#

"it wasn't heavy-handed regulations that were entirely responsible for turning the 1st World around after that necessary phase of human evolution."

Like those catalytic converters the market put in all cars as GM, Ford, and Chrysler tried to one-up each other to be the most environmentally conscious automaker out there. And who can forget their market-driven switch to unleaded gasoline? Man, good times.

|12.5.06 @ 3:02PM|#

Sam Franklin | December 5, 2006, 2:50pm | #
From today's reuter's:

Richest 2 percent own more than half the world

By Tarmo Virki

HELSINKI (Reuters) - Two percent of adults command more than half of the world's wealth

...

While income is distributed unequally across the globe, the geographical spread of wealth -- which includes property and financial assets ...

========================

How does the US Federal government owning roughly 50% of all acreage in Western states factor into this calculation, I wonder? That would seem to put 5% of the world (US population, through Uncle Sam) "in command) of a global-class chunk of real estate.

|12.5.06 @ 3:05PM|#

I am old enough to remember when we called the loss of coastline erosion. Way back then we put in barricades, backfilled with sand or moved.
Now we stand there and blame each other for causing global warming while our governments think of ways to tax the air we breath.
Glad to see we are more enlightened now.

|12.5.06 @ 3:42PM|#

Global warming seems to be a proxy for any given individual's personal agenda.

Towards that end, here's mine... Evolution didn't stop because humans gained self-awareness. We're all still competing for limited natural resources. Because of that, we can't reproduce to infinity, and some will succeed in the competition for the resources and some won't.

Right now, the main evolutionary force working against us is ourselves. Global warming is just another in a long line of terrestrial events that shape the makeup of the planet.

All prevalent species have shaped their environment through the ions. I mean, look at those bastard cyanobacteria. Their massive expansion led to the introduction of harsh oxidization agents in the atmosphere. The corrosive effects of that episode resulted in extinction.

And I guess I'm a cold hearted bastard for saying such things.

fyodor|12.5.06 @ 3:55PM|#

RC Dean,

Do you think a killer asteroid would cause economic hardship, or only change with winners and losers? :-)

That's the extreme of environmental hardship scenarios of course, but I bring it up to make a point. Change brought by environmental factors should create more losers than winners for the same reason taxes do, even if some people act to take advantage of them as well. Nothing good (on net) should be expected to accrue from people being forced to change (as opposed to changing out of choice or innovation).

As for specifics, changes in crop patterns would be another cost. I don't know enough science to know whether we can have the same ease of food productivity on a warmer Earth(maybe, maybe not; personally I wouldn't want to roll dice with a successful model), but the necessity to adapt to the new climate (remember, being forced to change is not the same as choosing to change!) would create costs even if the net food production stayed the same.

fyodor|12.5.06 @ 3:59PM|#

ellipsis,

I don't know if you're a bastard, but saying essentially (if I understand you correctly) that you just don't care isn't much of an argument. You can make that argument about anything. If that's your choice to put yourself first, well, you have that right. But it doesn't say anything about the issue, only about your own stance on it.

|12.5.06 @ 5:21PM|#

"As evidenced by our catastrophic hurrican season this year, as widely predicted by the global warmingmongers."

Without taking a position on changes in hurricane properties, this season is stacking up to be an El Nino year; allegedly, this tends to add sheer which disipates hurricanes, but because El Ninos (and la ninas) are anomolies, they don't have much bearing on the overall trends. Or: What is the Hurricane Signal minus the El Nino signal? Which is to say what would be looking at had there been non El Nino? Whether we are discussing changes in global temperatures or hurricane propertties it is important to smooth out anomalies. Anamolies should not be regarded as disproofs of trends, they aren't.

|12.5.06 @ 5:39PM|#

Fyodor, warming will most certainly INCREASE crop production. The doomsayers either don't mention it, or make up flimsy reasons why it won't. But many regions will add an extra growing season. And the supposed deserts that are coming are nothing but more catostrophic fear mongering by the energy rationers. A warmer earth is a more bio-productive earth, guaranteed!

|12.5.06 @ 5:58PM|#

The fallacy here is to assume that the actions that should be taken to address global climate change will have a negative impact on the economy.

A note to skeptics. I find it interesting how much rigor is required of the climate models, while a much lesser degree of rigor is required of the economic predictions.

The uncertainty of global climate change is placed against the certainty of economic forecasting as if one were speculation and the other fact. From where I stand, the climate models are more likely accurate than the economic models as they take more factors that are better understood into account when the models are built than the economic models do...

But, by all means, carry the faith.

|12.5.06 @ 6:12PM|#

MainstreamMan,

No doubt the economic models are uncertain -- perhaps more uncertain than the climatalogical models.

But surely you realize that such a finding makes public policy prescriptions to address global warming that much harder to justify. One hopes that such prescriptions will not be instituted to save the planet from suffering, but to save humanity from suffering. And if the models can't accurately determine how much humanity will suffer, then no costly government action should be taken to try to alleviate global warming.

|12.5.06 @ 7:50PM|#

"no costly government action"

Not all government actions are costly. Imagine, for instance, that the government removed current subsidies to oil. That is a government action. What about having government policy restructured so that it has equal or lower drag on economic activity, but redistributes that drag from resource and environmentally unfriendly current policies towards policies that are friendlier to greener practices (carbon tax increase combined with decrease on labor tax, for instance)...

Herman Daly has worked out some of these ideas... including moving the tax base away from labor and capital to resource throughput. There is nothing in the proposal that is inherently "costly." And there is the potential to do it in ways that are both good for the environment and better than the current system for the economy.

|12.6.06 @ 2:41PM|#

"warming will most certainly INCREASE crop production."

I am not so sure about that. Croplands will have to deal with increased evaporation from the soil due to increased heat. France had this problem not too long ago. But aside form that possibility, farmers will be forced to at least change crops. This will disrupt things more or less depending on how often they have to change farming methods and plants etc.

As for the oceans:
http://www.physorg.com/news84633999.html
Warmer doesn't look good.

|12.6.06 @ 4:15PM|#

Sure, we'll lose some housing stock and infrastructure along the coasts,

But most of that shit is only there because of the government's incredibly low insurance rates and national taxation for local projects that make no economic sense. See "New Orleans - Katrina damage" for details.

|12.6.06 @ 9:34PM|#

This whole global warning thing is a nanny-state conspiracy. The conspirators want us to believe that free-market capitalism isn't sustainable. What a crock. The market would unleash the scientitific creativity to solve global warming even if it did exist. It's a big hoax. Look outside. It's snowing!

|12.8.06 @ 5:42AM|#

Ron,

While we should pay some attention to discount rates, the "let's pass this problem off to future generations" has the perverse implication that it is always the best approach to the managment of open-access commons to encourage their unfettered destructive over-exploitation for the benefit of private interests today, and let later and supposedly wealthier generations deal with the mess. And should future generations should also act similarly for the benefit of those who destroy public goods? Just when are responsible adults supposed to take action to solve problems relating to open-access resources? Encouraging and whitewashing the destruction of common resources is clearly not the epitome of wisdom.

Just look at where that has gotten us with other open-access resources like fisheries.

The real question is when it makes sense to develop institutions to control the exploitation of common resource either through regulated common or private property rules. As Yandle notes, man makes tremendous progress in improving his collective wealth by figuiring out how to efficiently manage open-access resource. The basic question facing us today is whether the costs of creating a regime that prices GHG emission activities exceeds the costs of unfettered exploitation.

Failing to impose any pricing mechanism on GHG emissions means that private economic actors will never have incentives to make investments in the technology that will be needed in the future. The lesson to be drawn is to start NOW.

Nordhaus has been writing on this for thirty years now, and showed back then that the pricing curve for carbon would start off small and then climb after a few decades. We have been stymied in moving forward not by costs, but by both the prisoners' dilemma internationally and by obvious rent-seeking at home (that has paid off for those who dump GHGs free of charge).

An ancillary problem has been that the short time horizons of politicans means that incentives are skewed to procrastination and to short-term gains, rather than to building consensus and meaningful rules.

|12.9.06 @ 2:25AM|#

The basic question facing us today is whether the costs of creating a regime that prices GHG emission activities exceeds the costs of unfettered exploitation.

Actually, no. The question is whether the costs of creating a regime that prices GHG emission activities are less than the benefits from that regime.

Since you bring up Nordhaus, let's look at numbers from his 2000 book, in particular Table 7-3 "Abatement Costs and Environmental Benefits of Different Policies".

According to his models, the net present value of the cost of unrestrained global warming is 3.9 trillion dollars. He tests several policies for their cost and their benefit. Of all the policies tested, only the optimal policy -- taxing gasoline according to its environmental shadow price -- finds the benefit exceeding the cost. Yet the benefit is only 283 billion dollars while the cost is 92 billion. That is a very small dent in the 3.9 trillion dollar damage presumed due to global warming, and the net result is a decrease in warming for the next century from 2.5 degrees to 2.4 degrees.

Looking at this table, Nordhaus's optimal strategy may be the best strategy, but the second best strategy is to do absolutely nothing at all. Furthermore, considering how very close the optimal strategy is in its effects to doing nothing at all, any strategy that is much more aggressive is sure to have negative economic impact. Finally, given the improbability that governments can be moved to implement something close to the optimal policy without incurring vast deadweight costs to the economy, doing absolutely nothing about global warming looks like the best deal possible.