The NRTEE and carbon pricing

The National Round Table on Environment and Economy made the news this week with its report to the federal government on how the feds’ own climate change targets could be achieved, and with minimal impact on the economy. The NRTEE was established way back when by Brian Mulroney, who a couple years ago was dubbed “Canada’s Greenest Prime Minister” (little did we know they were actually talking about greenbacks). As an advisory panel, with the likes of Alcan and Abitibi being represented, along with market-friendly economists like Mark Jaccard, this could be as close to a stamp of approval from big business as we are likely to get.

Having already worked the Harper-goes-to-Kyoto storyline in the Fall of 2006, with the tabling of a (albeit weak and grudging) climate change plan, this might seem like a golden opportunity for the Harper conservatives to regain some street cred on the climate change file, and to dig themselves out of the embarrassment of having stonewalled the Bali talks last December. Alas, no. The response of John Baird and Stephen Harper was to dismiss the report out of hand.

Why? The NRTREE report calls for a carbon tax (and/or a cap-and-trade system), and implementing new taxes, irrespective of the cause and consequences of non-action, is a no-fly zone for this government, who see themselves as tax-cutters first and foremost. The notion of funneling more money through the public sector in order to combat what Nicholas Stern called “the greatest market failure the world has ever seen” is just not on for Steve and the boys because that would mean bigger government.

With an election perhaps as soon as this spring, we should not consign the report to the dust-heap of parliamentary history just yet. In fact, it is a fascinating read, and includes some modeling done by the Jaccard team (technically by a consulting firm run by an associate of Jaccard but using the CIMS model that Jaccard developed). We need to be careful about accepting the results of models uncritically, and this dominant CIMS model needs to have someone take a look under the hood to see what is making it go, as this will have great bearing on the types of solutions that get recommended. I have not looked that closely but the modelling looks to be the same as that released in the interim report back in June (see this post). Here is how they describe the modelling of higher prices for emitting greenhouse gases:

The emissions price signal changes the relative cost of fuel and technologies so that a low-carbon technology is deployed and consumer behaviour changes at a level sufficient to achieve the desired emission reduction. Since all in the economy face the same emissions price signal, costs are equalized so that only the lowest cost emissions reductions are selected. In practice this does not always occur but, for setting targets and exploring pathways, it is an appropriate way to conceptualize and model the issue. The emissions price pathways that are modelled therefore indicate the strength of a market-based price required to achieve a given level of emissions reduction. Policy design options, that is, how to send the price signal to achieve cost-effective emission reductions, is then another question that we explored with the model.

The model tells us more about carbon pricing rather than specifically carbon tax or cap-and-trade variants of carbon pricing, which have their own pros and cons, and design issues that must be considered. Even though the report purports to model a carbon tax and two variants of cap-and-trade, what is really modelled is an increase in the price of emissions at different points of the economic supply chain. All assume a price path from $20 per tonne in 2015 (why 2015 and not immediately we are not told) rising to $200 per tonne from 2030 onward, with the relationships in the model determining the impact on actual emissions. This model is better suited to modeling a carbon tax because cap-and-trade works in the opposite manner, by setting a cap then letting the market determine the price.

A key point is that the model assumes a relationship between carbon pricing and emissions, so it should not be surprising that the conclusion is that we should have carbon pricing to reduce emissions. How well rooted those assumptions are about the elasticity of emissions to the price of carbon is open to debate – I’m sure they are empirically estimated to the greatest extent possible, but we are entering unknown terrain here in terms of price increases that to me suggests great humility in assuming that elasticities in the known range of experience will hold for very large price increases (demand curves being convex we should expect demand to get more inelastic as the price rises). Assumptions about future changes in technologies that emit less carbon would also seem to a point for critical examination.

That said, one refrain in the report I found interesting was the need for regulation to complement a pricing scheme. I have been talking carbon pricing with a lot of people lately and many advocates of carbon taxes tend to dislike regulatory approaches, while others want tough regulation and are skeptical of carbon pricing. So this report is a nice refresher that we need to use all the tools at our disposal, and it is not an either-or issue:

Our research shows that, while most of the options result in significant emission reductions, these will not fully attain the defined target of 65%. As a result, there will be a need for complementary policies to attain further emission reductions by 2050; specifically regulatory mechanisms that will force GHG emission reductions from parts of the economy that may not respond to a price signal. These gaps arise through the following:

    market failures and other barriers that reduce the responsiveness of certain sectors to changes in emission costs – particularly in the transportation and building sectors – and some consumer markets such as vehicles, houses and appliances; and

    emissions from sectors of the economy not covered by the broad price signal, including agriculture, forestry, waste and portions of the upstream oil and gas extraction system (such as fugitive emissions of methane from oil and gas wells and coal mines, and gas leaks from pipelines).

The complementary policy toolkit includes policies such as regulatory standards, subsidies and infrastructure investments. To assess the effectiveness of possible complementary policies, a series of regulations in the building and transportation sectors were combined with the market-based options.

[M]ore reductions occur when targeted regulations complement broadly applied carbon prices, with building regulations (BR) and transport regulations (TR) increasing the effectiveness of all policies. … This shows that regulatory policies can be very effective in closing gaps between actual emissions and targets when some segments of the economy are insensitive to emission prices.

2 comments

  • I was an author on the NRTEE report and have covered the story closely. So was pleased to read the last half of your article. No one is talking about your last point which is really about tool complementarity. So, nice job of pulling that thread out — most folks as you say are polar in their views on instrument choice. But portfolio theory instructs us othewise, and perhaps those financial guys have it right sometimes.

    Cheers

  • Great piece of analysis here, Marc.

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