Economics

Advancing public and private policymakers’ understanding of the complex interactions between climate change and the economy is critical to taking the most cost-effective action to reduce greenhouse gas emissions. Read More
 

The Role of Substitution in Understanding the Costs of Climate Change Policy

The Role of Substitution in Understanding the Costs of Climate Change Policy

Prepared for the Pew Center on Global Climate Change
September 2000

By:
Dale W. Jorgenson, Harvard University
Richard J. Goettle, Northeastern University
Peter J. Wilcoxen, University of Texas at Austin
Mun Sing Ho, Harvard University

Press Release

Download Entire Report (pdf)

Foreword

Eileen Claussen, President, Pew Center on Global Climate Change

The U.S. economy has proven both resilient and adaptive over the past century. From the "bust" of the Great Depression to the current "boom" associated with information technology, the economy's ability to adapt stems largely from the substitution possibilities within it — that is, how businesses and households alter their behavior when a major economic change occurs.

Reducing greenhouse gases could alter future economic conditions, largely through increased energy prices. While these changes could be significant, the economy is rapidly becoming even more flexible and responsive as technology changes the way things are invented, produced, and distributed. Accordingly, the damages to the economy might be less. Yet, many economic models used in predicting the future costs of climate change policies do not adequately capture the economy's full range of substitution possibilities. A recent Pew Center report entitled, An Introduction to the Economics of Climate Change Policy, identified substitution assumptions as one of five key factors having the largest influence on modeling results. The other factors are: how baseline greenhouse gas (GHG) projections are measured; what policy regime is considered; how technological progress is represented; and whether GHG reduction benefits are included.

This analysis by Dale Jorgenson, Richard Goettle, Peter Wilcoxen and Mun Sing Ho explores the role of substitution in adapting to economic change. It begins with what is considered a "flexible" model (a top-down, computable general equilibrium model of the U.S. economy) and then constrains the flexibility parameters within this model to observe its new results. In essence, the authors use the same model to behave both "flexibly" and "inflexibly" in order to observe the effect of this pivotal assumption on model outcomes.

The most striking conclusion of this work is that the failure to depict the full range of historically-observed substitution possibilities (as many economic models do) can lead to as much as a doubling of the estimated costs of a climate change policy, an overestimate that is wholly attributable to this one pivotal assumption. This overestimation may be even more pronounced since the economy appears more flexible today than in the post-war period when these observations were made. Another interesting finding is that v a rying the flexibility households have in choosing to work more or fewer hours can be as important in predicting carbon prices and economic outcomes as the assumptions about flexibility in all of production. In summary, economic models of climate change must represent the full range of flexibility that is achievable or risk significant errors in estimating economic benefits and costs.

This paper would not have been possible without the comments and support from several individuals. The Pew Center and authors would like to thank Larry Goulder, Jeffrey Frankel, and Hadi Dowlatabadi for their thoughtful comments on early drafts of this report. Special thanks are due to Ev Ehrlich for serving as a consultant on this project, and to Judi Greenwald for her editorial assistance.

Executive Summary

The U.S. economy's reaction both to climate change itself and to the policies designed to avoid climate change depends largely upon the abilities of consumers and producers to adapt to these changes and move forw a rd under new conditions. In turn, these abilities depend on the ease with which consumers and producers can alter their purchasing behavior without sacrificing welfare, income, and production. This ease is reflected largely in the economy's "substitution possibilities" — the options available to con-sumers and producers to change what they buy and sell in response to changes in the prices of particular goods and services. If the cost of economic substitution is low, and the range of substitution possibilities is wide, then mitigation costs — the damages to welfare, income and production — are likely to be low and the burden on the economy is likely to be small. If the cost of substitution is high, and range of substitutability is narrow, then mitigation costs are likely to be high. The purpose of this paper is to examine the economy-wide impacts of reduced substitution opportunities when the economy must adjust to a constraint on carbon emissions.

This analysis uses an economic model that, compared to other models, depicts a relatively complete set of substitution possibilities for consumers and producers. Simulation results from the model portray the economy's response to an emissions reduction schedule that is implemented through a system of tradable emissions permits. The first model simulation used substitution possibilities that were estimated from historical data. Next, the authors systematically replaced key parameters (i.e., coefficients or multipliers of selected mathematical relationships embedded in the model) in a manner that drastically reduced the substitution possibilities of producers and consumers. Each of these simulations defined a different world or economy. The authors then simulated each economy's reaction to proportionally identical emissions constraints. In this manner, the model produced measures of the economic responsiveness both with and without flexibility and the analysis quantified the benefits and costs of substitution.

Three areas of substitution are most important to the overall economic reaction to climate change. These are:

  • flexibility in production, meaning the ability of firms to substitute labor, capital, or other materials for energy or each other when the price of energy rises;
     
  • flexibility in consumption, meaning the ability of households to change the mix of goods and services they buy in response to higher energy prices; and
     
  • flexibility between labor (and, hence, income and consumption) and leisure, as households allocate their scarce time between the two.
     

The principal conclusions emerging from this analysis are:

1. When allow able substitutions reflect the observed behavior of the past , constraining carbon emissions to around 70 percent of their projected base-case levels costs the economy about a one and one-quarter percent loss in real Gross Domestic Product (GDP) and a one-tenth of one percent loss in economic welfare. For perspective, at current levels, this loss in GDP corresponds to an annual loss in income of $430 per person living in the United States and the welfare loss is equivalent to a tax, payable today, of $3,175 per person.


2. Constraining carbon emissions is generally more costly when substitutability in consumption or production is restricted. Thus, flexibility within the economy significantly reduces the adverse impacts of climate change and climate change policies. Real GDP losses are slightly larger when consumption is less flexible, and are doubled when production is less flexible. Failing to account for the full range of substitution possibilities in consumption and production will lead to overestimation of the negative effects of climate change policy.


3. Just as "rigidity" magnifies economic costs, it can also magnify economic benefits under certain circumstances. For example, inflexibility in consumption or production is beneficial to economic performance when: (a) climate change policies lead to additional tax revenues, and (b) the tax policy for reusing these additional revenues is economically advantageous.


In fact, the benefit is magnified the more inflexibility is introduced (assuming a and b hold).

4. Differences among models' treatment of the substitutability between consumption and leisure are likely to be every bit as important in predicting emissions permit prices and economic outcomes as are the models' underlying details of technology, consumption, or production. The more inflexible households are with respect to their consumption-leisure tradeoff, the lower the costs of reducing emissions. Contrary to what occurs when substitution is constrained in production or consumption, rigidity in this instance appears beneficial. However, this rigidity can also prove harmful. The combination of an emissions constraint, inflexibility in consumption and production, and more favorable tax treatment leads to economic benefits (point 3 above). Add inflexibility in consumption and leisure, and the combination leads to economic costs. Rigidities in household choices between consumption and leisure substantially limit the observed economic outcomes from climate change policy: either the adverse impacts are smaller or the potential benefits never materialize.


This analysis is important not only because of its results, but also because it explores this topic in a detailed and systematic manner within a single methodology. It is among but a few efforts to fundamentally change the character of a model in developing a sensitivity analysis. The numerous and well-documented outcomes of other policy experiments have informed the policy process. There now are fewer surprises when a particular policy design is subjected to the scrutiny of a broad range of models. But the quest for understanding does not end here. A model's outcomes depend on interactions among the various components that govern its behavior, and thus analysts need to identify and examine these components in both isolation and combination. The intent of this exercise is to increase understanding of the nature and magnitude of the benefits and costs of substitution by exploring the key features of one particular model and the economy it can portray. The hope is that this exercise makes a modest contribution to the formulation of environmental and economic policies that are beneficially robust over the broadest possible range of economic circumstances. 

Dale W. Jorgenson
Mun Sing Ho
Peter J. Wilcoxen
Richard J. Goettle
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Press Release: New Reports Demystify Two Central Drivers Of Economic Analyses of Climate Change Policy

For Immediate Release:
September 7, 2000

Contact: Katie Mandes (703-516-0606)
             Dale Curtis (202-777-3530)

New Reports Demystify Two Central Drivers Of Economic Analyses of Climate Change Policy:
Technological Change and the Economy's Flexibility Examined

Washington, DC - Computer models that predict the costs and benefits of climate change policies do not adequately capture the economy's flexibility or the dynamics of technological change, according to two new reports from the Pew Center on Global Climate Change.

The reports examine two of the most important variables driving economic analyses of climate mitigation policies: (1) "substitution" effects, or producers' and consumers' spending and purchasing flexibility in response to external shocks such as changing energy prices; and (2) the rate and drivers of technological innovation.

"These reports show that two significant factors underlying the current U.S. economic boom - the level of flexibility and technological progress in the economy - are not fully represented in most current economic analyses of climate change policy," said Eileen Claussen, President of the Pew Center on Global Climate Change. According to Claussen, "This finding should cause us to be skeptical in our review of model results that do not depict this flexibility."

Models with "Inflexible" Assumptions Can Double Predicted Economic Costs

In the first paper, entitled "The Role of Substitution in Understanding the Costs of Climate Change Policy," the authors analyze the economic impacts of imposing a climate policy on a relatively "flexible" economy, then compare the same climate policy on a relatively "inflexible" economy that restricts substitution away from, for example, more to less energy-intensive goods. These "inflexible" assumptions are similar to those used in many existing economic models, which analyze the effects of climate change policies.

The most striking conclusion is that the inflexible model scenario can lead to as much as a doubling of the estimated costs of any particular climate change policy. This pattern of overestimation may be even more exaggerated in today's high-tech economy, which appears to be growing much more flexible. Therefore, many model results may overstate the costs of climate change mitigation.

Dale Jorgenson of Harvard University, Richard Goettle of Northeastern University, Peter Wilcoxen of the University of Texas, and Mun Sing Ho of Harvard University wrote this report.

Defining What Drives Technological Innovation is the Final Frontier for Modelers

Moving the economy to a future with reduced greenhouse gas emissions (GHG) will necessitate a profound economic transition in which new GHG-friendly technologies and approaches will be necessary. The second report - "Technology and the Economics of Climate Change Policy" - identifies how economic models of climate change currently address technological innovation and where gaps still exist in their analysis.

The paper finds that all model results show technological progress reduces the cost of climate change mitigation. Specifically, this result is true in both the two broad model categories designated as "Top-down" and "Bottom-up" models. Top-down models often reduce technological change to a single rate at which energy efficiency improves throughout the economy, based on past experience. Bottom-up models focus on the cost and performance of emissions-reducing equipment, comparing today's world to the world that would exist if new technologies were widely used.

However, all models fail to capture the full process of how technological innovation can be "induced" by policies such as R&D expenditures, energy prices, taxes, and subsidies. While some models capture different parts of this innovation process well, modeling this "induced" technological change is in its infancy. Improving modeling to reflect induced technological change is an important area for future research.

The technology report authors are Jae Edmonds, Joseph Roop, and Michael Scott of the Battelle.

"All models agree that technological progress reduces the cost of climate change mitigation," Claussen said. "This is why it is important to improve our understanding and modeling of this key variable."

Continuation of Economic Series

A Pew Center report published in July entitled, "An Introduction to the Economics of Climate Change Policy" identified the five most important drivers in economic models of climate policies. The two reports released today provide greater detail regarding two of these determinants. A complete copy of these and other Pew Center reports can be accessed from the Pew Center's web site, www.c2es.org.

About the Pew Center: The Pew Center was established in May 1998 by the Pew Charitable Trusts, one of the United States' largest philanthropies and an influential voice in efforts to improve the quality of the environment. The Pew Center is a nonprofit, non-partisan and independent organization dedicated to providing credible information, straight answers and innovative solutions in the effort to address global climate change. Eileen Claussen, the former U.S. Assistant Secretary of State for Oceans and International Environmental and Scientific Affairs, leads the Pew Center. The Pew Center includes the Business Environmental Leadership Council, a group of large, mostly Fortune 500 corporations all working with the Pew Center to address issues related to climate change. The companies do not contribute financially to the Pew Center; it is solely supported by contributions from charitable foundations.

Press Release: Report Helps Readers Understand Economic Analyses of Climate Policies

For Immediate Release:
July 17, 2000

Contact: Katie Mandes, 703-516-0606
             Dale Curtis, 202-777-3530

Report Helps Readers Understand Economic Analyses of Climate Policies
Stanford Professor Identifies Five Key Variables And How They Are Manipulated

Washington, DC — Some analysts say measures to address global climate change will have dire effects on the economy, while others foresee net benefits. How can policy makers, journalists and others determine who is right -- or even assess such claims?

A new report commissioned by the Pew Center on Global Climate Change explains how economic analysts use computer models to predict the costs and benefits of proposed policies, and why the predictions vary so widely.

"This report should be extremely helpful to those involved in the climate policy debate," said Eileen Claussen, President of the Pew Center. "The number of economic analyses of climate policy options has grown rapidly in recent years. The variations among them are significant, and without a better understanding of the variables, it is virtually impossible to make informed policy decisions."

Five Variables Explain Majority of Model Differences

The report identifies five variables that explain the majority of differences in the results of economic modelling of climate policy. Two of the key variables involve how the economy adjusts to fluctuating energy prices. Energy is a central issue because the combustion of fossil fuels -- such as oil, coal and gas -- produces carbon dioxide, one of the key greenhouse gases. Energy price changes may cause producers to develop new technologies or substitute different inputs when providing goods and services. Price changes may also spur consumers to shift their buying patterns. Hence, how a computer model handles these substitution and innovation effects will have a large impact on the resulting cost predictions.

The other three variables operate independently of how the economy might respond to certain policy measures. For example, the third variable involves "baseline" emissions trends, or the expected path of emissions in the absence of any new climate policies. Generally, a higher baseline projection will produce higher estimates of the economic impacts of achieving any emissions reduction target.

A fourth variable is the policy environment that governs what adjustments the economy might make. Other things being equal, the more flexibility provided in the policy regime, the smaller the economic impacts of achieving a particular emissions target. The final factor concerns whether the benefits of reducing GHG emissions are explicitly considered. Many studies ignore the benefits of reducing GHG emissions, resulting in an upward bias in cost estimates.

Varying Assumptions Cause Large Swings In Results

Because of the differences in the way these five variables are defined, cost projections for a given set of assumptions can vary by a factor of two to four across models. Within individual models, differences in assumptions about the baseline level of GHG emissions, the policy regime and emissions reduction benefits can cause estimates to vary by a factor of ten or more.

"A clear understanding and interpretation of these determinants will help explain nearly all of the differences in climate policy cost estimates," said Claussen.

Professor John P. Weyant of Stanford University is the author of the report, entitled "An Introduction to the Economics of Climate Change Policy." Professor Weyant serves as Director of the Energy Modelling Forum of Stanford University, which convenes the world's leading energy and climate modellers to discuss issues in the field.

A complete copy of the report is available on the Pew Center's web site, www.c2es.org.

The Pew Center was established in May 1998 by the Pew Charitable Trusts, one of the nation's largest philanthropies and an influential voice in efforts to improve the quality of America's environment. The Pew Center produces analytical reports on the science, economics, and policies related to climate change; conducts public education efforts; works with businesses to develop market-oriented solutions to reduce greenhouse gases; and promotes better understanding of market mechanisms globally. Eileen Claussen, former U.S. Assistant Secretary of State for Oceans and International Environmental and Scientific Affairs, is the President of the Pew Center. The Pew Center includes the Business Environmental Leadership Council, which is composed of 21 major, largely Fortune 500 corporations, all working with the Pew Center to address issues related to climate change. The companies do not contribute financially to the Pew Center — it is solely supported by contributions from charitable foundations.

An Introduction to the Economics of Climate Change Policy

An Introduction to the Economics of Climate Change Policy

Prepared for the Pew Center on Global Climate Change
July 2000

By:
John P. Weyant , Stanford University

Press Release

Download Entire Report (pdf)

Foreword

Eileen Claussen, President, Pew Center on Global Climate Change

What are the potential costs of cutting greenhouse gas emissions? Can such reductions be achieved without sacrificing economic growth or the standard of living we have come to enjoy? These are important questions, and they come up again and again as the United States and other nations consider what actions are needed in response to climate change.

Many participants in the climate change debate — in government, industry, academia, and non-governmental organizations — have conducted economic assessments to determine the costs of taking various actions to address climate change, with the number of economic assessments increasing exponentially in recent years. Differences among their quality and predicted cost of action, or inaction, have also grown, making it difficult to have faith in any one analysis.

The primary example of varying model results can be seen among the numerous reports predicting the domestic costs of complying with the Kyoto Protocol. Some have concluded the United States can reduce its emissions significantly below its Kyoto target (7 percent below 1990 levels), with net economic savings. Others have predicted dire effects on the U.S. economy. The truth most likely lies somewhere in-between.

Behind each analysis is an economic model with its own set of assumptions, its own definitions of how the economy works, and its own data sets. Unfortunately, these models often seem to be impenetrable "black boxes" allowing only a select few to decipher and interpret their results.

Fortunately, along with the rise in economic modeling there has also been a focus on identifying the differences among models. Professor John Weyant of Stanford University, the author of this report, has been at the forefront of these efforts as Director of the Energy Modeling Forum of Stanford University (EMF). His EMF working group convenes the world’s leading energy and climate modelers to discuss and model current energy policy topics.

In this report, Professor Weyant identifies the five determinants that together explain the majority of differences in modeling cost estimates. This is great news for those engaged in the climate change policy arena who are consumers of economic modeling results. Five key questions can be raised to help policy-makers understand the projected costs of climate change policy: What level of greenhouse gas emissions are projected under current policies? What climate policies are assumed to be put in place to achieve emissions reductions? What assumptions are made about how advances in technology might affect these emissions? To what extent are environmental impacts of climate change included? And is the full set of choices that firms and consumers have when presented with rising energy prices accounted for?

This paper would not have been possible without the assistance of numerous individuals. The author and the Pew Center would like to thank Ev Ehrlich, Judi Greenwald, Larry Goulder, Henry Jacoby, Rich Richels, Dick Goettle, Bill Nordhaus, and Bob Shackelton for their thoughtful comments on previous drafts of this paper.

We acknowledge the use of material from a background paper prepared by Robert Repetto, Duncan Austin and Gwen Parker at World Resources Institute.

Executive Summary

This paper is an introduction to the economics of climate change policy. The goal is to help the reader understand how analysts use computer models to make projections of mitigation costs and climate change impacts, and why projections made by different groups differ. In order to accomplish this goal, the paper will describe five key determinants of greenhouse gas (GHG) mitigation cost estimates.

The paper starts with a discussion of how the economy would adjust to restrictions on GHG emissions, especially carbon dioxide, the dominant, and easiest to measure GHG produced in the United States. Combustion of fossil fuels — oil, gas, and coal — produces large amounts of carbon dioxide. Central to this discussion is the role of energy price increases in providing the incentives for corporations and individuals to reduce their consumption of these fuels.

Energy price increases cause producers to substitute among the inputs they use to make goods and services, and consumers to substitute among the products they buy. Simultaneously, these price increases provide incentives for the development of new technologies that consume less energy in providing the goods and services that people desire. How a model represents these substitution and innovation responses of the economy are important determinants of the economic impacts of restrictions on GHGs.

Three other factors are crucial to economic impact projections.

First, the projected level of baseline GHG emissions (i.e., without any control policies) determines the amount of emissions that must be reduced in order to achieve a particular emissions target. Thus, other things being equal, the higher the level of base case emissions, the greater the economic impacts of achieving a specific emissions target. The level of base case emissions depends, in turn, on how population, economic output, the availability of energy fuels, and technologies are expected to evolve over time without climate change policies.

The second factor is the policy regime considered, i.e., the rules that govern the possible adjustments that the economy might make. International or domestic trading of GHG emissions rights, inter-gas trading among all GHGs, inclusion of tree planting and carbon sequestration as mitigation options, and complementary economic policies (e.g., using carbon tax revenues to reduce the most distortionary taxes in the economy) are all elements of the policy regime. Other things being equal, the more flexibility provided in the policy regime under consideration, the smaller the economic impacts of achieving a particular emissions target.

The third factor is whether the benefits of reducing GHG emissions are explicitly considered. An analyst may subtract such benefits from the mitigation cost projection to get a “net” cost figure or produce a “gross” cost figure that policy-makers can weigh against a benefit estimate. The kind of cost figure produced often depends on whether the analyst is trying to do a cost-benefit analysis or an analysis focused on minimizing the cost of reaching a particular emissions target.

Thus, this paper will describe the major input assumptions and model features to look for in interpreting and comparing the available model-based projections of the costs and benefits of GHG reductions. Two of the five key determinants — (1) substitution, and (2) innovation — are structural features of the economic models used to make emissions projections. The other three determinants are external factors, or assumptions. They are: (3) the base case projections, (4) the policy regime considered, and (5) the extent to which emissions reduction benefits are considered.

The results summarized in this paper illustrate the importance of these five determinants and the large role played by the external factors or assumptions. Cost projections for a given set of assumptions can vary by a factor of two or four across models because of differences in the models’ representation of substitution and innovation processes. However, for an individual model, differences in assumptions about the baseline, policy regime, and emissions reduction benefits can easily lead to a factor of ten or more difference in the cost estimates. Together these five determinants explain the majority of differences in economic modeling results of climate policy.

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Press Release: New Studies Highlight Opportunities for Reducing Emissions While Maintaining Economic Growth

For Immediate Release:
May 23, 2000

Contact: Juan Cortinas (202-777-3519)
             Katie Mandes (703-516-4146)

New Studies Highlight Opportunities for China, Brazil and Argentina to Reduce Emissions While Maintaining Economic Growth

WASHINGTON, D.C. — The Pew Center on Global Climate Change released today three new studies that outline realistic opportunities for China, Brazil and Argentina to address the challenge of climate change. The reports are part of a six report series that examines ways to reduce emissions in developing countries without compromising economic growth.

China, Brazil and Argentina are becoming leaders among developing nations in the international climate change debate and the case studies demonstrate the effectiveness of different policy approaches to emission reductions. In the latest reports, the authors use a linear programming model to conduct an assessment of the technological options available to each country for supplying new electric power generation through 2015.

"These reports are particularly noteworthy because of the geographical and economic importance of each nation examined. They highlight the different challenges and circumstances that developing nations face in addressing environmental problems," said Eileen Claussen, President of the Pew Center on Global Climate Change.

The three previous reports released in the series included an overview piece entitled Developing Countries and Global Climate Change: Electric Power Options for Growth and an examination of the electric power sectors of India and Korea.

Following is a brief overview of each report's findings, recommendations and conclusions:

China

The Developing Countries and Global Climate Change: Electric Power Options in China report was completed by the Beijing Energy Efficiency Center and the Battelle Advanced International Studies Unit. With annual releases of over 918 million metric tons of carbon dioxide into the atmosphere, Chinese decisions affecting energy development and emissions mitigation will significantly impact world climate. The report assesses the current and future state of the power sector to meet projected demand through 2015 under several scenarios

The Chinese analysis yielded several insights:

  • Due to the heavy reliance on coal-fired power generation, baseline carbon dioxide and sulfur dioxide emissions from thermal plants will more than double by 2015.
  • Increasing demand-side energy efficiency by 10 percent could reduce carbon dioxide and sulfur dioxide emissions by 19 and 13 percent, respectively, in 2015, while lowering costs.
  • Expanding the availability of low-cost natural gas through market reforms could reduce emissions of carbon dioxide and sulfur dioxide in the power sector by 14 and 35 percent, respectively, by 2015, and increase costs by only 4 percent compared to the baseline.
  • Accelerating the penetration of cleaner coal technologies could help China reduce sulfur dioxide and particulate emissions, but the associated impact on carbon emissions would be minimal and the cost would increase by 6 percent.

Brazil

Developing Countries and Global Climate Change: Electric Power Options in Brazil, was developed by the Federal University of Rio de Janeiro, Energy Planning Program, Center for Technology, and the Battelle Advanced International Studies Unit. The study points out that Brazil produces relatively few greenhouse gas emissions relative to its size and population. This is mainly due to the dominant role of hydropower in electricity generation. Yet its greenhouse gas emissions could be expected to quadruple, as it changes its fuel mix over the next 20 years.

The Brazilian case study also revealed that:

  • Many new investors may favor natural gas-fired combined-cycle plants that would increase carbon dioxide emissions from 3.4 million tons in 1995 to 14.5 million tons in 2015.
  • Further tightening of local environmental regulations and adoption of renewable energy policies could reduce carbon dioxide and sulfur dioxide emissions by 82 percent and 75 percent, respectively, by 2015.
  • Creating a carbon-free power sector would require an additional $25 billion in cumulative costs by 2015.

Argentina

The last report in the series is entitled Developing Countries and Global Climate Change: Electric Power Options in Argentina and was developed by the Bariloche Foundation also working with Battelle. The report finds that the market reforms the country has been implementing since the early 1990's provided mixed, but on balance, positive environmental results. The country's electric power demand is expected to more than triple over the next 15 years, yet its emissions of greenhouse gases, do not have to increase at the same rate. It finds that investments in natural gas combined-cycle plants and renewable energy sources could provide a prudent path for energy development and environmental protection.

The report also found several key opportunities, including:

  • Adopting policies that favor renewable energy sources and nuclear power would cost $32 billion by 2015 and would decrease carbon dioxide emissions from 14 million tons in the baseline to 11 million tons in 2015.
  • Increasing energy efficiency would reduce total costs by $6.3 billion and carbon dioxide, sulfur dioxide and nitrogen oxide emissions would all decline 20 percent compared to the baseline.

A complete copy of each report is available on the Pew Center's web site, www.c2es.org.

The Pew Center was established in May 1998 by the Pew Charitable Trusts, one of the nation's largest philanthropies and an influential voice in efforts to improve the quality of America's environment. The Pew Center supports businesses in developing marketplace solutions to reduce greenhouse gases, produces analytical reports on the science, economics and policies related to climate change, launches public education efforts, and promotes better understanding of market mechanisms globally. Eileen Claussen, former U.S. Assistant Secretary of State for Oceans and International Environmental and Scientific Affairs, is the President of the Pew Center.

The Pew Center includes the Business Environmental Leadership Council, which is composed of 21 major, largely Fortune 500 corporations all working with the Pew Center to address issues related to climate change. The companies do not contribute financially to the Pew Center - it is solely supported by contributions from charitable foundations.  

Press Release: Climate Change Conference Reveals Innovation and Progress

For Immediate Release :
April 25, 2000

Contact: Katie Mandes (703-516-4146)
             Kelly Sullivan (202-289-5900)

Climate Change Conference Reveals Innovation and Progress Across The Private Sector Worldwide and In Many Governments

WASHINGTON, D.C. — The opening of a two-day international conference today, sponsored by the Pew Center on Global Climate Change and the Chatham House/Royal Institute of International Affairs, served as a showcase for many of the most far-reaching innovations that businesses and governments are undertaking to address the challenge of global climate change.

"In the United States, climate change policies have been hotly debated but little action has been taken," said Eileen Claussen, President of the Pew Center on Global Climate Change. "Fortunately, there is substantial progress being made — by governments abroad, businesses here and around the world and by state and local governments here at home."

To complement the conference, the Pew Center on Global Climate Change also is publishing a special supplement on climate change in tomorrow's Washington Post. Significantly, the piece includes statements by 13 Chief Executive Officers (CEOs) of some of the world's leading companies, all members of the Pew Center on Global Climate Change's Business Environmental Leadership Council (BELC), acknowledging that climate change is a real problem that demands action by the public and private sector.

Among these statements are:

"Enron supports market-based initiatives that create efficient, cost-effective and environmentally sound energy systems," says Dr. Kenneth L. Lay, Chairman and CEO, ENRON. "As a company, we are taking steps to provide the world with clean energy solutions and implementing systems to manage greenhouse gas emissions. Our belief in the synergies between state of the art energy management practices and sound environmental policies have translated into effective pre-construction measures for our new headquarters building, which we expect will save $10 million and reduce greenhouse gas emissions by 34,000,000 lbs (or 17,000 tons) per year."

"Technology and innovation move us forward as people on earth," says George David, Chairman and CEO, United Technologies Corporation. "Environmentally benign fuel cells, built by United Technologies for every American space mission ever, may be the next great innovation to power our cars and our homes. A concerted public and private effort will make huge reductions in global climate change impacts for our nation and our world. All we need is the will."

Additional statements by the following CEOs are included in the supplement:

Göran Lindahl, President and CEO ABB Group, Dr. E. Linn Draper, Jr. Chairman of the Board, President and Chief Executive Officer American Electric Power, Harry M. Jansen Kraemer, Jr. Chairman and Chief Executive Officer Baxter International Inc., Ralph Peterson President and Chief Executive Officer CH2M Hill, Charles O. Holliday Chief Executive Officer DuPont, J. Wayne Leonard Chief Executive Officer, Entergy, Paul A. Yhouse President and CEO Holnam Inc., Robert D. Glynn, Jr. Chairman, CEO and President PG&E Corporation, Tag Taguchi, President, Toyota Motor North America, David R. Whitwam Chairman and CEO Whirlpool Corporation, Steven R. Rogel Chairman, President and CEO Weyerhaeuser Company Profiles.

Also included in the supplement are examples from these corporations highlighting their actions to mitigate climate change. Some examples include:

BP Amoco
BP Amoco believes in adopting a precautionary approach to climate change. BP Amoco intends to reduce its greenhouse gas emissions by 10 percent of 1990 levels by 2010 and has implemented a greenhouse gas emissions trading system across all its businesses to achieve this target cost effectively. Its portfolio of activities includes collaboration in research and policy development, growing its solar business and promoting flexible market instruments.

DuPont
By 2010 DuPont intends to reduce global carbon equivalent greenhouse gas emissions by 65 percent and hold energy use flat - in both instances using 1990 as a base year. The company also plans to be using renewable resources for ten percent of global energy use by 2010.

Featured speakers at the conference include:

  • John Prescott, Deputy Prime Minister, United Kingdom
  • Jan Pronk, Minister of Housing, Spatial Planning and the Environment, The Netherlands
  • Robert Hill, Minister for the Environment and Heritage, Australia
  • Theodore Roosevelt, IV, Managing Director, Lehman Brothers, Inc.
  • Rodney Chase, Deputy Group Chief Executive, BP Amoco

T he Pew Center was established in May 1998 by the Pew Charitable Trusts, one of the nation's largest philanthropies and an influential voice in efforts to improve the quality of the U.S. environment. The Pew Center is conducting studies, launching public education efforts, promoting climate change solutions globally and working with businesses to develop marketplace solutions to reduce greenhouse gases. The Pew Center is led by Eileen Claussen, the former U.S. Assistant Secretary of State for Oceans and International Environmental and Scientific Affairs.

The Pew Center includes the Business Environmental Leadership Council, which is composed of 21 major, largely Fortune 500 corporations working with the Center to address issues related to climate change. The companies do not contribute financially to the Center, which is solely supported by charitable foundations.

More information on climate change and the Pew Center on Global Climate Change, can be found at www.c2es.org.

Innovative Policy Solutions to Global Climate Change Conference

Promoted in Energy Efficiency section: 
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April 25-26, 2000 - Washington, D.C.

This conference featured high-level speakers presenting innovative policy measures being implemented by industrialized country governments and the private sector. Conference topics were common policy approaches (taxes, trading, negotiated agreements), cross-cutting issues (competitiveness and trade), energy and transportation sector policies, and state and local programs.  A conference summary is available in PDF format.

Featured speeches are available in PDF format:

  • John Prescott, Deputy Prime Minister, United Kingdom
  • Jan Pronk, Minister of Housing, Spatial Planning and the Environment, The Netherlands
  • Robert Hill, Minister for the Environment and Heritage, Australia
  • Theodore Roosevelt, IV, Managing Director, Lehman Brothers, Inc.
  • Rodney Chase, Deputy Group Chief Executive, BP Amoco

Conference Press Release

Hosts:

The conference was co-hosted by the Pew Center on Global Climate Change and the Chatham House / Royal Institute of International Affairs (RIIA), a leading institute for the analysis of international issues, based in London. The Royal Institute of International Affairs (RIIA), also known as Chatham House, is a leading institute for the analysis of international issues. Founded in 1920 in London, RIIA stimulates debate and research on political, business, security, and other key issues in the international arena, such as energy and environmental policy issues, primarily through its research, meetings, conferences, and publications. Visit http://www.riia.org for more information.

Roundtable Sponsors:

The Developing Country Perspectives Roundtable was co-sponsored by the Pew Center and the Shell Foundation Sustainable Energy Programme. The Sustainable Energy Programme (SEP) is the major grant-making programme of the Shell Foundation, both of which will be formally launching on June 5th, 2000. SEP provides grants to groups working in the public interest on projects that tackle two fundamental energy-related issues: the environmental impact of our dependence on fossil fuels, and the link between energy and poverty in developing countries. More information can be found at www.shellfoundation.org.

International Emissions Trading & Global Climate Change: Impacts on the Cost of Greenhouse Gas Mitigation

International Emissions Trading & Global Climate Change:  Impacts on the Cost of Greenhouse Gas Mitigation

Prepared for the Pew Center on Global Climate Change
December 1999

By:
Jae Edmonds, Michael J. Scott, Joseph M. Roop, and Christopher N. MacCracken, Battelle, Washington, DC

Press Release

Download Entire Report (pdf)

Foreword

Eileen Claussen, President, Pew Center on Global Climate Change

Several factors influence the costs of greenhouse gas mitigation. This report illustrates the importance of one such factor—international emissions trading—in reducing the costs of carbon control. The authors find that an international greenhouse gas emissions trading regime will significantly lower global mitigation costs. Specifically, the report finds:

  • The costs of controlling carbon emissions would be significantly lower if trade is permitted than if each country is required to meet its obligations alone.
     
  • Providing greater flexibility in trading mechanisms—for example, allowing trading among various greenhouse gases and across emissions sources, and allowing trades to occur over time—lowers the costs.
     
  • Emissions trading reduces the potential for "leakage" of jobs, industry, and emissions compared to a control case with no trading because changes in world fuel prices would be moderated through the availability of trading.
     
  • While broader participation in trading is likely to yield greater benefits, any amount of trading will lower the costs for those participating. If a climate policy regime is in place that allows emissions trading, all parties—with or without obligations—are better off trading than not.
     
  • Issues of program design and institutional structure must be addressed carefully to realize the full economic potential of trading regimes.
     
  • By making transparent the core structure and assumptions of economic models, the Pew Center hopes to provide policy-makers and consumers of economic information with tools to better understand the important assumptions driving the models’ projections of costs.
     

This report is the first in a series designed to explore how economic models address the climate change issue. The first phase of this effort will make a direct and significant contribution to economic modeling in the following four areas: (1) review of existing models and identification of their key assumptions; (2) investigation of the models’ theoretical frameworks; (3) encouraging best practices in modeling specific aspects of the climate change issue; and (4) integrating innovative modeling practices into a state-of-the-art assessment of the costs of climate change and the policies used to address it.

The second phase of the Pew Center’s economics program will focus on how businesses react to climate change—and policies to ameliorate it—in the context of sound business strategy and practice. The Center is in a unique position to provide insight into the inner working of firms through the participation of our Business Environmental Leadership Council.

The Center and authors appreciate the valuable input of several reviewers of previous drafts of this paper, including Ev Ehrlich, Judi Greenwald, Eric Haites, Elizabeth Malone, and others.

Executive Summary

One of the earliest and most robust findings of economics is that, where relative costs of performing an activity differ among individuals, business firms, or regions, there are almost always potential gains from trade. In today’s jargon, trade can always be win-win. Traditional approaches to addressing environmental problems have generally not taken advantage of this potential. Rather, command and control regulatory policy instruments have been the tools of choice. While these tools can be effective in reaching an environmental goal, they can also be expensive. Recently environmental policy-makers have begun to explore ways of obtaining more environmental benefits per dollar expended, and the use of emissions trading has been on the cutting edge of these efforts. Because climate change is an issue that requires a sustained policy commitment over the course of a century, attention to the cost of policy intervention is especially important. This paper explores the degree to which trade among parties to an international agreement can reduce the cost of greenhouse gas reductions.

International trade holds the potential of reducing costs of controlling world emissions of greenhouse gases (GHGs) because the nations of the world experience very different costs for achieving emissions reductions on their own. However, the potential gains from trade, like the costs of compliance themselves, may be very unevenly distributed across the world’s participants. While all of the parties to an agreement stand to gain collectively under trade in emissions rights as compared with "independent compliance" (i.e., each country meeting its obligations alone), non-participants in the agreement may either benefit or not depending on their own particular circumstances. The detailed rules for trading affect how effective trading could be, as well as the level of gains that would be captured in practice. Details of the trading rules will influence both the total gains from trade and distribution of such gains. Key issues include definitions of the emissions rights to be traded, the rules for crediting carbon sinks, and regulations governing participation in the trading framework. In addition, there are economic uncertainties, such as the behavior of countries that have significant market power in supplying emissions credits, and the transaction costs associated with trading and enforcement. These effects could significantly increase the costs of mitigation compared to the most favorable case and could reduce the amount and benefits of trading.

A number of global economic models have been used to estimate the effects of emissions trading. Empirical results derived from these models can be summarized as follows:

  • Costs of controlling carbon emissions would be significantly lower if trade in carbon emissions allowances were permitted than if each nation had to meet its emissions reduction responsibilities alone. The broader the trade possibilities, the lower the costs of control.
     
  • All parties with GHG emissions mitigation obligations benefit from trade. Both permit buyers and permit sellers will benefit.
     
  • Parties without obligations may be better or worse off under a trading regime relative to a regime that does not allow trading. However, given a regime that allows trading among parties with obligations, parties without obligations will be better off trading (i.e., selling emissions reductions) than not trading.
     
  • Because the costs of fuels could be affected by emissions control and emissions trading, countries and regions may be affected whether or not they participate in emissions reduction and in emissions trading. Parties without obligations may be either better off or worse off after obligations are established for others. For example, if emissions trading is prohibited, the prices paid to fossil fuel producers are reduced, and the energy-exporting countries are worse off relative to a no-control case. Emissions trading mitigates this effect. Results for other non-participating regions are more ambiguous.
     
  • Gains from trade are sensitive to the difference between the base case and target emissions and to the difference in marginal (incremental) abatement costs among countries. For any limit to emissions, the higher the future level of emissions is expected to be without intervention, the more difficult and costly mitigation is expected to be. Although the gains from trade depend on the differences between countries’ marginal abatement costs, not their absolute level, the analysis in this paper shows that the gains from trade are larger for more ambitious emissions targets.
     
  • The actual cost savings from trade in emissions are likely to be less than the theoretical savings shown in most analyses performed with integrated assessment models because these models do not include the various measurement, verification, trading, and enforcement costs that would characterize any real trading system. Programs must be carefully designed to assure that the potential gains from trade are realized.
Christopher N. MacCracken
Jae Edmonds
Joseph M. Roop
Michael J. Scott
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Early Action Conference

Promoted in Energy Efficiency section: 
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Early Action Conference

The Pew Center on Global Climate Change, in cooperation with The H. John Heinz III Center for Science, Economics and the Environment, held a conference to explore the subject of credit for early action. The conference featured a keynote address by DuPont Executive Vice President and Chief Operating Officer, Dennis H. Reilley, announcing the company's rigorous new greenhouse gas reduction targets. Another conference highlight was luncheon speaker Robert Luft, Chairman of Entergy Corp., speaking on the importance of an early action crediting program in the United States to facilitate reductions in greenhouse gas emissions.

The conference offered an overview of the early action issue from the perspectives of various industry sectors (including oil and gas, and manufacturing), electric utility, Congressional staff, state and city government; a review of current proposals; and roundtable discussions of the legal, policy, and technical issues that confront the architects of early action programs. Valuable participation by the audience contributed to a balanced and well-informed discussion.

Keynote Address by Dennis H. Reilley
Executive Vice President and Chief Operating Officer, DuPont

DuPont Announcement Press Release

Luncheon Speech by Robert Luft
Chairman, Entergy Corp.

Pew Center Early Action Report

Economics and Integrated Assessment of Climate Change Workshop

Promoted in Energy Efficiency section: 
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July 21-22, 1999
The Westin Hotel, Washington, DC

List of Attendees (pdf)

On July 21-22, 1999, the Pew Center on Global Climate Change held a Workshop on the Economics and Integrated Assessment of Climate Change. This workshop brought together leading economists, scientists, and others interested in climate change economics and policy. The purpose of the workshop was to examine the complex interactions between the climate change problem and the economy, focusing in particular on the integrated assessment modeling of climate change.

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