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The Most Important Number You Have Never Heard Of

by Kristen Sheeran • August 9, 2010 @ 11:20 am

While Congress was busy dropping the ball on capping carbon emissions, another debate was brewing inside of the beltway. This debate, which involves economists and various federal agencies, is over the social cost of carbon (SCC). 

The SCC may be the most important number you have never heard of. It asks, how much will each ton of carbon dioxide that we release into the atmosphere cost us in damages, both today and in the future? If the answer is a big number, then we ought to make great efforts to reduce greenhouse gas emissions. If the answer is a small number, then the case for reduction is weaker, and only easy or inexpensive changes seem warranted. Estimates of the social cost of carbon could be used by federal agencies such as the Department of Energy and the Environmental Protection Agency to justify regulations as wide-ranging as tail pipe emissions standards, energy efficiency standards, and greenhouse gas emissions from power plants and industry.

The Obama Administration Approach

While no definite SCC has been set so far, an Interagency Working Group has endorsed a ‘central’ estimate of $21 per ton of carbon dioxide, or roughly 20 cents per gallon of gasoline — far too small of a price incentive to prompt substantive mitigation measures. If widely adopted, this low estimate of the SCC could result in ineffectual regulations that would barely reduce U.S. emissions, if at all. This is the conclusion of a recent E3 Network white paper on the social cost of carbon by Frank Ackerman and Elizabeth Stanton.

According to the E3 white paper, the Administration’s estimates were calculated by collecting a variety of SCC estimates from the current climate economics literature and tweaking them for comparability and utilizing only three models, FUND, PAGE, and DICE. All three are problematic: FUND mistakenly predicts a huge reduction in mortality from warming, then values the lives supposedly saved on the basis of their per capita incomes. As a result, it makes the morally offensive assumption that human lives in poor countries are worth less than in rich ones. PAGE has produced a wide range of estimates, the higher of which the working group ignored, and most of its estimates assume that developed nations will adapt to climate change at near-zero cost. DICE assumes on very thin evidence that most people in the world would prefer a warmer climate, and recommends a very slow ‘climate policy ramp’ as a result.

The resulting underestimated values use unsupported judgments as grounds for ignoring important alternatives like the Stern Review and the Intergovernmental Panel on Climate Change, are overly aggressive in discounting the value of future costs, and ignore the risk of catastrophic climate change. A corrected version of the same calculations would likely result in a higher SCC and more stringent emissions regulations.

Ethical Issues and Discounting

Some of the serious anticipated damages from climate change, such as loss of endangered species, unique habitats and environments, and human lives and communities cannot be reasonably quantified or monetized regardless of how valuable they really are. Much of the literature used to inform the Administration’s estimates omits these values entirely, effectively giving them a value of zero. As a result, estimates of the SCC may be too low or logically incomplete.

To estimate the SCC, present and future damages must be combined in one value. This process is called ‘discounting’. The farther into the future that costs take place, the less these costs are assumed to matter in today’s decision-making. The higher the discount rate, the less future costs are valued in present-day terms. Climate policy is inescapably concerned with mitigation costs incurred today that will have their greatest benefits a century or more into the future. The choice of a discount rate for intergenerational impacts is therefore an ethical judgment. Lower discount rates, decreasing rates over time, and even a zero discount rate can be used to show that our society takes seriously the costs to be suffered by future generations. The Administration’s casual estimates and unsupported judgments are used to justify discount rates that are inappropriately high (2.5-5%) for an analysis that spans several generations.

Catastrophic Risk and Policy Design

The Administration’s SCC estimates largely omit the risk of catastrophic climate damage. In fact, the treatment of catastrophic risk is one of the most important parts of climate economics; policy is recommended to be directed at reducing the risks of worst-case outcomes, not at balancing the most likely values of costs and benefits. The expected damages are important and costly; the credible worst-case outcomes are disastrously greater. The urgent priority is to protect ourselves against those worst cases, not to fine-tune expenditures to the most likely level of damages.

Policy design should begin with adoption of a safe minimum standard, based on the scientific analysis of potential risks. The economic analysis would then seek to determine the least-cost strategy for meeting that standard. For example the costs of lowering atmospheric CO2 concentrations to 350 ppm, a level now advocated by a growing number of climate scientists and policy analysts, would be noticeable but manageable. The risk of spending ‘too much’ on clean energy alternatives pales in comparison with the risk of spending too little and irreversibly destabilizing the earth’s climate.

Conclusion

The Administration’s low estimate of $21 per ton of CO2, is a function of its choice of a limited range of underlying studies, high discount rates, and insufficient emphasis on the risk of catastrophic climate damage. Better choices at several points in the methodology would have resulted in a far higher SCC and, as a result, more stringent and expensive but necessary emissions reduction would be considered economical. 

To put this price in perspective, consider the United Kingdom, which pioneered the use of SCC estimates for policy purposes, estimates prices ranging from $41 – $124 per ton of CO2, with a central case of $83. Since 2009 however, it has abandoned calculation of the SCC altogether, and now bases its carbon price on estimates of mitigation costs to reach its official commitment to reduce CO2 emissions by 80% by 2050.

An expanded calculation of carbon prices for the United States should at least explore prices in this range, and should be open to considering the full range of implications of the extensive research that is needed to compute a better estimate of the cost of carbon emissions.

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