Climate emergency economics – Stern Review

Climate emergency economics – Stern Review

In recent posts we’ve looked at the effects of the climate emergency, and at some technologies that might help mitigate them. In the next few posts, we’ll look into the economic and financial implications.

The seminal study into the economics of climate change was the Stern report, published in 2006. Commissioned by the then Chancellor, Gordon Brown, Sir Nichols Stern was asked to lead a team of Treasury economists to examine the economic challenges of climate change. It used a technique known as “integrated assessment modelling” to estimate the total impact on the economy. This technique spans multiple academic disciplines, including economics and climate science, and also energy systems and land-use change.

The Review first estimated the effects of “business as usual” on greenhouse gas emissions and global temperature rise. Its forecast of a 5°C rise was at the upper end of IPCC forecasts. It argued that positive feedback loops could lead to runaway growth in carbon emissions. The costs of the impacts of climate change were then assessed by a Monte Carlo simulation model. Factors such as the discount rate (the weighting given to future generations) and unequal impacts across the world (global equity) are also taken into account – Stern gave more weight to these than previous studies.

The Review’s central message was that climate change is a serious threat to human welfare that demands urgent global action now (ie in 2006). It warned that the effects on the economy and social cohesion could be on a scale similar to the world wars and the great depression. It put the costs of climate change at between 5% and 20% of global GDP each year, now and forever.  On the other hand, the costs of reducing greenhouse gases to avoid the worst effects could be just 1% global GDP each year.

The report unequivocally called for urgent collective global action to reduce greenhouse gas emissions. It argued for a carbon price or tax, ideally broadly similar around the world. Its language and arguments for urgency were uncompromising. It called climate change “the greatest market failure ever seen”.

Naturally, such a strong message caused strong reactions. PM Tony Blair said it demonstrated that the scientific evidence was “overwhelming” and the consequences “disastrous” if the word failed to act. Economists from the World Bank, the International Energy Agency and the CBI, as well as many academics warmly supported its conclusions.

Others were more cautious, accepting the need for action, but questioning the urgency. Some however argued that the report was too conservative, pointing out that the feedback loops were very difficult to assess.

Negative reaction was equally strong. The inherent uncertainties of the climate science, and the difficulties of producing economic forecasts for such long time periods were used to challenge the conclusions. Stern was criticised for “taking the most pessimistic assumptions” and underestimating what development and adaptation would do to impacts.  Others argued that co-ordinated international action would not be possible. Former Chancellor Nigel Lawson warned of “eco-fundamentalism”.

Economists focused on the choice of discount rates. A higher discount rate will make future damages look small, thus there is less need to reduce emissions today; while a lower discount rate will make future damages look larger, driving greater urgency. It seems that getting agreement on an appropriate rate cannot be achieved through any direct analysis, and fundamentally becomes an ethical question: the value one puts on the needs/rights of future generations. Stern took the view that intergenerational justice would require the constraint that future generations enjoy a quality of life at least as good as that enjoyed by the current generation.

The costs of mitigation – of reducing emissions – were also challenged. Several economists argued they would be much higher “We will actually have to sacrifice a great deal to cut emissions dramatically”.

In the years since the Stern Review, there has been a greater acceptance of the need for “urgent” action. Global agreements through the Paris accord demonstrate some willingness to address the issue, setting targets for “zero-carbon” emissions. But agreement on goals is not the same as action.

There does seem to be an increasing consensus that action is needed – that the costs of inaction are if anything higher than thought, and that new technology is reducing the costs of action.

Earlier this year in a lecture at MIT, Stern himself remained convinced of the need for action. He expressed some optimism, saying that policymakers are now much more likely to believe that we can combine continued economic growth with zero-emissions technology. However, he emphasised that “Net zero is fundamental. That’s not some strange economist’s aspiration. The net zero is the science. If you want to stabilize temperatures, you’re going to have to stabilize concentrations. Stabilizing concentrations means net zero.”

Despite its significant impact on public opinion, the Stern Review demonstrates the difficulties of modelling a complex physical system and its interactions with a complex economic one over a long time period with many uncertainties. It showed that even sophisticated and rigorous modelling hides inherent assumptions and ethical standpoints. As foresight practitioners we appreciate the effort to evaluate, but would argue that it shows the limits of deterministic forecasting. Instead we would argue for a more scenario based approach – which would also lead to a call for action on climate change.

Written by Huw Williams, SAMI Principal

The views expressed are those of the author(s) and not necessarily of SAMI Consulting.

SAMI Consulting was founded in 1989 by Shell and St Andrews University. They have undertaken scenario planning projects for a wide range of UK and international organisations. Their core skill is providing the link between futures research and strategy.

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Image by Nattanan Kanchanaprat from Pixabay

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