Notes on the social cost of carbon

A recent paper by Ackerman and Stanton did some re-estimates of the Social Cost of Carbon, finding this measure of the externality (or costs imposed on third parties) from burning fossil fuels could be as high as $893 per tonne of CO2, rising to $1,500 per tonne by 2050. These are extreme estimates, but they are calculated using a conservative model. The key point is that the official US government measure, that is $21 per tonne, was unrealistically low because of a range of assumptions in the model itself, as well as many other things the model does not take into account.

Some context: Frank Ackerman has long been a critic of attempts to put market value on environmental problems (correctly, in my view). I first came across his work when I did some research on cost-benefit analysis of environmental regulation. A range of questions inevitably arise about how one values human injury, disease or death in such exercises, not to mention ecosystem damage, extinct species and so forth that have no market value per se.

In recent years, Ackerman (with Stanton) has made a devastating critique of estimates of the social cost of carbon. A year ago, a paper deconstructed the concept and its particular application in a handful of statistical model used to derive the US government number, which (surprise, surprise) ends up being pretty low. SCC is anthropocentric, so there is no cost to other catastrophes and plant/animal extinctions beyond any utility value to human consumers (and discounted for future generations). It cannot deal well with events of low probability but catastrophic consequence.

The new paper follows up that critique using the conservative DICE model developed by Nordhaus to show that amending the standard and unrealistic assumptions leads to very different results, in the hundreds of dollars per tonne range with that top end number of $893. Basically, you get larger values of SCC when either damages are higher and/or when the discount rate is lower. Business as usual is basically human extinction, so damages are about as high as they could get.

Somewhere in the $150-500 range of carbon price, we get “maximum feasible abatement” — all options for reducing emissions are economical — meaning numbers over say $500 per tonne do not change the imperative for action in dollar terms, they just urge even greater precautionary action. Now. The authors in an oped make the comparison to fire insurance:

Your house might not burn down next year. So you could probably save money by cancelling your fire insurance. That’s a “bargain” that few homeowners would accept. But it’s the same deal that politicians have accepted for us, when it comes to insurance against climate change. They have rejected sensible investments in efficiency and clean energy, which would reduce carbon emissions, create green jobs, and jumpstart new technologies – because they are too expensive.

While your house might not burn down, your planet is starting to smolder. Extreme weather events are becoming more common, and more expensive: in the first half of 2011, Mississippi River floods cost us between $2 and $4 billion, while the ongoing Texas drought has cost us between $1.5 and $3 billion, according to the National Climatic Data Center. And there’s much worse to come: climate-related extremes are already forcing millions of people from their homes worldwide; ice sheets and glaciers are melting much faster than expected; the latest research shows we are rapidly heading for summer temperatures at which crop yields in America will start to plummet.

… Our report finds deep flaws in the U.S. government’s $21 per ton estimate. That inaccurate estimate promotes inaction, with enormously harmful consequences. Our research incorporates an up-to-date understanding of climate risk and uncertainty, and finds that the true cost of carbon emissions could be almost $900 per ton today, and more than $1,500 by 2050. Granted, these are the high end of the range of 16 scenarios that we studied. We aren’t sure that the costs will be that high – but we also can’t be sure that climate change won’t be that expensive. It’s the fire insurance problem: you buy insurance because you can’t be sufficiently sure that your house won’t burn down.

Just as climate models have ended up being too optimistic matched up against real-world data, so the conservative approach to modeling financial costs and SCC is showing the same flaws. The A-S paper also includes an additional commentary by Simon Dietz on the social cost of carbon that notes that under standard assumptions, the model finds a loss of GDP of 50% when temperature increase is 18 degrees C, which is clearly out of whack with science.

The Stern Review prompted a lot of debate about discount rates. He advocated for a zero discount rate, which is to say that future generations’s welfare is treated like our own. We do not “discount” the impact of bad things that happen. It means “let’s party until the house falls down” so if not precisely zero the discount rate for such exercises should be very close to zero.

There is good overview article, “Discounting and the social cost of carbon”, that lays out what happens when you use different discount rates. For example, a 3% discount rate means you value people 100 years from now at only 5% of someone today, at 5%, only at 1%; and even if we drop the discount rate to 1%, we are still only valuing someone a century onward at 37%. Anything beyond this, like 500 years, has essentially zero bearing from a present value point of view, so over the long time frames climate analysis takes place discounting is rigged towards doing very little today.

8 comments

  • The issue of discount rates seems like a good one to consider. Ecological sustainability does seem like it should require a low discount rate. But my initial reaction is a bit of caution because you can construct intuitive cases for a wide range of rates. I could say it is selfish that we value ourselves as much as our grandchildren and that foisting climate change adaptation on them is unfair so that the discount rate should be negative. In the other direction I have a suspicion there’s something weird about saying we ought to value the well-being of individuals hundreds of years in the future as much as today. For example, what does that mean for medical research? Should our entire economy be oriented towards maximizing medical research so that future generations can benefit from this?

  • The counter-argument from Nordhaus is that future generations will be a lot richer than we are, but given the stakes I’m skeptical about being too blase about future generations.

  • You said: “We do not ‘discount’ the impact of bad things that happen.”

    But this appears questionable to me. As I said, imagine medical research. What would the optimal share of the economy dedicated to medical research if the expected present value of the benefits of medical research were enormous? Which surely they would be if we cared as much about our relatives in the distant future getting cancer as we do about our own society. If we have a zero discount rate for the expected impact of new tropical illnesses due to climate change, why not a zero discount rate for the expected impact of tropical illness due to inadequate medical research?

  • I’d agree that one has to discount somewhat. I mean, in theory, we would expect the amount of future time with humans in it to be, if not infinite, at least very very long. If you don’t discount at all, then any lasting improvement that you can make for the future should economically speaking be done right now because even if you ruin the present economy doing such things, if they last long enough they’ll be well worth it for the future generations once the economy improves. Basically, nobody could stop toiling for minimal wages until we’ve finished building a perfect, eternal robot-run economy of plenty that will allow everyone in the rest of history to relax and enjoy effortless wealth.

    But the question of just how much is another one; in practice if not in theory I’d say we currently discount the future a damn sight too much. It’s to the point where not only do we stiff future generations, we stiff our own somewhat older selves.
    On top of that, I think it’s to the point where it’s bad for us in the present–if nobody builds for a future in the moderately long term, I think it causes a malaise, a loss of the feeling of accomplishment that comes with making things to last. There’s a decadence about it that leaves one dissatisfied.

  • I guess it is a matter of recognizing there are value judgements implicit in discounting. With our decisions, we discount (in practice, not just in modeling) future generations, we also discount current generations (poor people in distant countries and even our own towns) and other species.

  • I agree it is a value judgment. I just couldn’t come up with quick reasons why the social impact of climate change is more important than other social impacts, like say deaths caused by air pollution and so on. The sustainability of the planet is certainly important, but that seems like a somewhat separable issue.

    I should say I think you do a lot of great work on this stuff, I just want to pin down the details.

  • Rentier Fungicide

    Good stuff. My comment relates to your point above about the “many other things the model does not take into account.”

    I would add, as Ackertman, Dallas Burtraw, Micheal Toman and others have been showing for over a decade, that there is a large body of evidence that the ancillary costs of GHG production and co-benefits GHG reduction, even excluding the vast ancillary health costs and benefits (so just effects of GHG emissions such as materials soiling, constraints on agricultural production due to suspended particles, reductions in visibility, ecological costs such as promotion of pest-infestations) may be thought to exceed the cost of GHG abatement by an order of magnitude or so (or so I recall from a literature review completed a number of years ago).

  • Rentier Fungicide

    Sorry, I think that I was very unclear: what I meant, in my confused way, was that the co-benefits of GHG reduction measures are said to outstrip the costs of implementing these measures by an order of magnitude even in the short term.

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