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Supply-side climate policies

I very much liked this paper by Bard Harstag “Buy Coal” in the latest JPE. It is behind a firewall but you can access the whole thing verbatim here.

A key problem with attempting to achieve an international agreement on climate policy if of course the existence of a set of non-complying countries. If a coalition of compliers (a ‘climate coalition’) restricts their use of carbon-based fuels then a general equilibrium effect is to reduce the price of fuels and to encourage extra usage outside the coalition. Effects on import-competing industries inside the coalition can be addressed by coalition countries applying border taxes on those goods they import from countries outside the coalition that reflect the non-internalised carbon taxes. Competitiveness disadvantages among exporters in the coalition countries can be dealt with by handing out free tradable carbon emission quotas. I strongly support such policies since, provided they are implemented honestly, they are not protectionism. They ensure a level playing field in the world’s traded goods sectors, prevent carbon leakages from coalition to non-coalition countries and provide incentives for non-coalition countries to join the coalition – then they collect the carbon taxes rather than the governments of the coalition countries.

But such policies leave unaddressed the types of general equilibrium carbon leakages cited in the first paragraph. Fuels get cheaper when the climate coalition curtails their carbon use and this encourages use outside the coalition. If the coalition alone reduces its supply of carbon-based fuels then non-coalition countries will increase their supply. Non-coalition countries will experience inadequate incentives to invest in renewables and so on. Harstag’s ingenious proposal is simply to allow trade in fossil fuel deposits before climate and trade policies are established. Coalition countries should then buy deposits in non-coalition countries and then not exploit them. The deposits selected should be the ones used which are least profitable since their owner will be willing to sell these cheaply. The coalition can then reduce their supplies marginally without supposing non-coalition countries will increase theirs. Supply side leakages are eliminated. This will tend to equalize carbon prices across countries as well as marginal benefits from consumption. Thus trade distortions are also eliminated. Investments in technology also become efficient. The proposal is a bit like proposals for the North to buy back rainforests from the South – this works better than a timber boycott since this would reduce timber prices creating incentives for increased timber imports. The proposal is also a bit like proposals to buy back emissions permits when agents undertake voluntary actions to reduce their emissions in a closed economy.

There are qualifications to this model that the author acknowledges and this clever paper will be subject to debate. But the basic idea is most interesting. As Science Daily puts it - multinational companies trade extraction rights – so too should members of a climate coalition. (2123)

8 comments to Supply-side climate policies

  • Peter Wood

    It is a very interesting paper. The main result, that this mechanism leads to a socially optimal “first-best” outcome is a strong one. It provides a strong case that policy-makers should think about supply-side issues as well as demand-side ones.

    I have seen a few other papers that investigate mechanisms which also lead to socially optimal outcomes. One such mechanism is Guttman’s ‘matching rate’ mechanism. A paper by Boadway, Song and Tremblay “The Efficiency of Voluntary Pollution Abatement when Countries can Commit” shows that in a climate change context, Guttman’s mechanism has a subgame perfect equilibrium is socially optimal.

  • hc

    The Boadway, Song and Trelay paper is at:

    http://qed.econ.queensu.ca/working_papers/papers/qed_wp_1205.pdf

    This works provided countries commit to matching the abatement efforts of others – a seemingly stronger requirement than the Harstag paper. I’ll read this carefully.

  • You seem to be taking for granted the conventional view that putting CO2 into the air has substantial negative externalities. Why? Earth’s climate wasn’t designed for us, nor were we designed by evolution for the current climate. Humans currently live successfully across a wide range of climates. So why would one expect that a climate a few degrees warmer would be worse for us?

    It’s true that we are optimized against our present environment, and that creates a presumption against change in either direction. But the presumption is surely a weak one if the change is as slow as three degrees centigrade and a foot or two of sea level over a century. In a century, farmers will have changed crop varieties multiple times, most houses will have been replaced, and if the environment is slowly changing the new crops and houses will be optimized against the new environment.

    I’ve discussed this issue at some length on my blog, and have yet to see any convincing reason to expect that global warming, on the scale currently expected, would be a bad thing, let alone a catastrophically bad thing. It seems to me that that, and not the climate science, is the weak link the argument for carbon taxes and similar policies.

  • hc

    David you write:

    “You seem to be taking for granted the conventional view that putting CO2 into the air has substantial negative externalities. Why? Earth’s climate wasn’t designed for us, nor were we designed by evolution for the current climate. Humans currently live successfully across a wide range of climates. So why would one expect that a climate a few degrees warmer would be worse for us?”

    That’s not the view of the 4th Assessment report and of a whole range of writers such as Martin Weitzman. A 5% risk of 10 degrees C warming over 200 years is a perceptible catastrophic risk. Almost all the estimated distributions of temperature outcomes have reasonably fat tails. The evidence is assembled in the IPCC report.

    One thing I wonder about is whether any (and every) argument on climate has to go back to the basics as to whether it is a real problem. Sometimes I want to discuss issues that stem from the assumption that it is. Then there is a problem of trying to get global agreements to deal with it and to offset the effects of carbon leakages when such measures are imperfect.

  • johno

    The IPCC reports are assembled on the basis that man made catastrophic global warming is real and it seeks to muster evidence to support that view. One should be very sceptical of any predictions made by the IPCC and you would be crazy to base public policy on its pronouncements.

  • hc

    You are wrong again Johnno. The Fourth Assessment report does not assert catastrophic climate change will occur. It surveys a range of climate change models and concludes that the probability density functions have relatively ‘fat tails’ for catastrophic climate change – there are significant probabilities such events may occur. The MIT and Weitzman studies estimate much fatter tails than IPCC – the latter are conservative in their forecasts.

    You are repeating untruths and these untruths have been repeatedly exposed. Please find somewhere else to comment.

  • johno

    ‘Please find somewhere else to comment.’

    You never have liked people who don’t follow your line, have you Harry!

  • [...] The attractive feature of supply-based restrictions on the extraction of carbon-based fuels is that they raise the price of such fuels globally.  Demand restrictions caused by carbon taxes can, in a setting where they are imposed unilaterally, lead to carbon leakages because, in part, of  an induced reduction in the price of such fuels.  I favour restricting the development of low productivity high cost coal deposits immediately and the eventually phasing out (partly by using buyouts at their net social value) the use of all coal where this is politically possible.  Demand restrictions are a useful adjunct policy provided they lead to lower overall use of carbon fuels but they are not the whole story.  Societies should seek to phase out the use of coal entirely over the next few decades unless CCS technologies prove robust and commercially viable. My earlier post on  Bard Harslag’s “Buying Coal”  - an ingenious contribution on supply-based policies for addressing climate change – is here. [...]

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