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ISSUE: Industries whose products and activities contribute to global warming have been vastly overestimating the cost of reducing heat-trapping emissions. These dire economic predictions seem to be influencing the Clinton Administration's policy positions in the international negotiations, as well as alarming the public. A recently released report from economist Florentin Krause details why these economic predictions are fundamentally flawed and suggests that appropriate climate policies can actually boost the U.S. economy.
This update contains information about:
i) how the fossil fuel industry
is using predictions of serious economic harm to influence policymakers
and the public;
ii) what work Dr. Krause and others have done to debunk
these predictions;
iii) who Dr. Krause is and what expertise he brings
to these issues;
and iv) how to use this information effectively with
the media and policymakers. Included at the end of this update is the
five-page summary of Dr. Krause's report.
***
Just seven months before the critical climate change summit in Kyoto, Japan, where more than 150 national governments will negotiate measures to address global warming, the Clinton Administration, Congress, the national media, and the public appear to be influenced by flawed economic models that overstate the costs of reducing heat-trapping gas emissions. The industry-led Global Climate Coalition and other groups with a vested interest in the energy status quo have claimed -- to considerable media and policymaker attention -- that climate change solutions would cause losses of jobs and income not only for energy-related industries but also for the U.S. economy as a whole, leading to a broad decline in U.S. competitiveness, reduced living standards, and the migration of industries to developing countries.
In the policy arena, these economic predictions take on a strategic importance -- the economic analysis that the Administration eventually produces will largely determine the U.S. position in the international negotiations. The analyses by the GCC and others that show substantial economic damage are produced using flawed economic models and fail to incorporate policies that could substantially reduce greenhouse gas emissions at little or no cost. Unfortunately, the administration appears to be headed down essentially the same path.
At a press conference on May 27, 1997, economist and energy expert Florentin Krause released a report entitled "The Costs and Benefits of Cutting U.S. Carbon Emissions: A Critical Review of the Economic Arguments of the Fossil Fuel Lobby." Krause's report explains "why so many economists and for that matter, technologists and other energy policy experts, beg to differ on the notion that climate policies would hurt or burden the economy. The report critically examines the economic modeling studies on which stakeholders [fossil energy producers and certain manufacturing industries] base their media campaigns and congressional testimony. This review also provides and illustrates a generic conceptual framework for evaluating studies on the costs of mitigating climate change that should be useful for policy makers, business representatives, and journalists in screening further studies on this topic."
The press conference was well attended by key media representatives, including the environment reporters at the New York Times and the LA Times, as well as reporters from the AP and Reuters wire services. Although it is unlikely that these reporters will file specific stories from the event, the information will likely be used in future pieces they write on global warming. SSI staff will monitor media coverage of the issues raised at the press conference and alert you to any action possibilities.
Krause's report is one of the best counterarguments to the fossil fuel industry's pessimistic economic predictions. His conclusions debunking the industry positions as well as affirming reasonable policy options to reduce global warming deserve to be aired and should be widely circulated. Although SSI has not performed an independent evaluation of all the numbers in Dr. Krause's analysis, he is a respected analyst and his critique of the limited economic models and poor policy assumptions used in industry analyses is certainly valid.
This SSI Information Update is intended as a resource for members engaged in the climate debate. SSI members can help extend the media coverage of Krause's report and make sure it receives the media and policymaker attention that it deserves. Further, it is now nearly impossible to read any media coverage of the issue without some mention of GCC claims that climate change solutions "would eliminate millions of jobs and force Americans into second-class lifestyles." Armed with the information in Dr. Krause's report, scientists with expertise and/or special interest in climate change can effectively counter the industry's persuasive-sounding arguments whenever they appear.
A report summary is incorporated at the end of this alert. A complete copy will be available at Dr. Krause's organizational web site near the end of June: http://www.ipsep.org.
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-- dr. florentin krause is an internationally recognized expert on energy efficiency options, on utility sector regulatory reforms, and on the economics of mitigating climate change. he is the director of the international project for sustainable energy paths (ipsep) and a staff scientist at the lawrence berkeley laboratory's energy and environment division. he served as a lead author of the intergovernmental panel on climate change (ipcc) "Working Group III" study of the economics of climate change mitigation. dr. krause is also the lead author of 12 books on alternative energy futures and energy policies and has published dozens of technical reports and papers in his field. dr. krause received his ph.d. from the university of california in berkeley.
-- two other energy policy experts joined dr. krause at the press conference -- william moomaw and frank muller. dr. moomaw is professor of international environmental policy at tufts university (medford, ma) and co-director of the global development and environment institute -- which explores the relationship among economics, environment, and technology. dr. moomaw presented an overview of viable policy options available to the clinton administration, such as revenue-neutral lowering of capital gains taxes and an off-setting carbon tax, and an international carbon trading scheme.
frank muller is director of the environmental tax program housed at the economic policy institute in washington, dc -- where he investigates global and regional environmental issues and their relationship to economic development and social justice. mr. muller outlined the clear analytical flaws in the industry claims that a climate treaty will undermine u.s. competitiveness and result in a "jobs flight" to developing countries.
THE COSTS AND BENEFITS OF CUTTING U.S. CARBON EMISSIONS: A CRITICAL REVIEW OF THE ECONOMIC ARGUMENTS OF THE FOSSIL FUEL LOBBY
by Florentin Krause, Ph.D.
May 1997
SHORT SUMMARY
The current economic debate over climate policy is being dominated by fossil energy producers and some manufacturing industries that oppose effective international agreements or national action. Major lobbying groups representing these status quo stakeholders, such as the Global Climate Coalition (GCC) and other organizations warn of dire economic consequences should governments adopt policies to reduce carbon emissions. They predict losses of jobs and income not only for their own industries, but also for the U.S. economy as a whole, consisting of a broad decline of U.S. competitiveness, reducing living standards, and the migration of industries to developing countries.
The stakeholders' economic cassandra calls have recently been challenged in a statement signed by 2500 U.S. economists that includes the following passage:
"Sound economic analysis shows that there are policy options that would slow global warming without harming American living standards, and these measures may in fact improve U.S. productivity in the longer run."
The following report explains why so many economists and for that matter, technologists and other energy policy experts, beg to differ on the notion that climate policies would hurt or burden the economy. The report critically examines the economic modeling studies on which stakeholders base their media campaigns and congressional testimony. This review also provides and illustrates a generic conceptual framework for evaluating studies on the costs of mitigating climate change that should be useful for policy makers, business representatives, and journalists in screening further studies on this topic.
First conclusion:
The claims made by the status quo stakeholders misrepresent the results of mitigation cost research performed to date.
These claims are based on unrealistic climate policies constructed from a limited subset of policy options that are known to produce unfavorable economic outcomes. Specifically, the studies cited by status quo stakeholders systematically omit all of the five major policy options for increasing economic output and welfare while reducing emissions (so-called double dividends or no-regrets options). These five no-regrets options are:
1) shifting taxes from investments and labor to energy
2) reforming subsidies to the energy and transportation sectors
3) incorporating environmental impacts into energy prices
4) removing market failures and diffusion barriers in energy supply and
energy efficiency markets
5) accelerating technological innovation
In addition, the stakeholder analyses fail to consider and model well-known policy options for insulating energy-intensive manufacturing industries from competitiveness problems, such as border tax adjustments or tax credits for energy efficiency investments.
Second conclusion:
The studies cited by the status quo stakeholders fail to employ analytically sound, state-of-the-art modeling procedures, with the effect of a strong bias toward higher cost estimates and exaggerated effects on energy prices.
Specifically, the modeling systems and input data used in the stakeholder-endorsed studies lack key components needed to account for real world market failures, existing technology options, and technical change induced by climate policies themselves. These model and data-set limitations have the effect of defining away no-regrets options based on R&D and market transformation policies (items 4 and 5 in the above list).
The Global Climate Coalition adds a further bias by deriving its cost estimates for the U.S. from just one economic model. This proprietary model is known to yield pessimistic cost estimates when used for policy analyses that extend over longer time horizons. Predictions derived with this model for the cost of stabilizing emissions in 2010 or for cutting them by 20 percent are three to five times larger than the average prediction obtained in a test of fourteen publicly available models. Similarly, the carbon tax required to stabilize U.S. emissions in this model is up to a factor of ten higher than those obtained in other models.
This bias from model choice comes on top of the major bias from omitting all no-regrets policy options. These biases mean that the losses in economic output cited by the Global Climate Coalition fall outside the range of credible estimates.
Third conclusion:
Modeling studies that examine climate policies based on no-regrets options consistently arrive at minimal, neutral, or positive economic impacts, in stark contrast to the claims of status quo stakeholders.
1) When including tax shifts that cut investment-inhibiting taxes on capital and labor, all available U.S. modeling studies show that current European negotiating proposals (for stabilizing and then cutting emissions by 10 percent over 15-20 years) can be realized by the U.S. while largely, fully or more than fully offsetting predicted losses in output and jobs. For such tax shifts, even the pessimistic model cited by the GCC predicts positive cumulative impacts -- a feature of the model that the GCC disavows.
2) Available studies show that direct U.S. subsidies for fossil energy production amount to $10-30 billion per year. Indirect payments subsidizing oil-dependent road transport add another $40-140 billion, for a total of $50-170 billion. These subsidies are equivalent to a reward for carbon emissions of $35-$120 when averaged across emissions in the U.S.
Available modeling studies show that just eliminating the direct subsidies for fossil-based energy production -- much of it outright corporate welfare -- would go a long way toward eliminating long-term growth in U.S. carbon emissions. If the freed tax revenues are used for favorable tax shifts, such subsidy removal will cause no significant losses in economic output and may actually lead to a small gain.
3) U.S. fossil energy consumption continues to cause environmental damages other than climate change that are not reflected in energy prices. These damages are estimated to be $10-200 billion per year. For carbon-intensive coal, the pollution subsidy is equivalent to $8-217 per ton of carbon emitted from coal burning.
Again, available modeling studies indicate that if these damages were incorporated into energy prices through an ad valorem energy tax, U.S. carbon emissions over the next 20-30 years would stabilize and then decline, while the negative effects of higher energy prices can again be largely, fully, or more than fully offset by favorable tax shifts. When the benefits of avoided environmental damages are added, total welfare increases by as much as one percent or more. With just a welfare-neutral outcome, U.S. carbon emissions could be cut by up to 30 percent below 1990 base year levels.
4) Much of available technology for increasing energy productivity is not being taken up by U.S. consumers and firms because energy efficiency markets work significantly less well than textbook economics might suggest, innovative and successful approaches for correcting these problems use cost/benefit tested performance standards linked to market-based incentive programs that ensure the economic efficiency of market corrections. Regulatory measures are updated on the basis of new technologies brought forth and market-tested in incentive programs. Evaluation studies find that these and other programs are already saving U.S. consumers and firms several billion dollars per year.
Available studies show that expanded application of these policies could cut the nation's energy bills by growing amounts over the next 20-30 years, with an ultimate savings potential of more than $100 billion per year. At the same time, these productivity gains could cut emissions far below internationally proposed targets even as the economy continues to grow -- by as much as a third below the 1990 base year.
5) The modeling studies cited by status quo stakeholders commonly indicate that it would be economically advantageous to postpone emission reduction measures until lower-cost technology alternatives are available. This finding flows mainly from the assumption that the rate of technological innovation is a given and cannot be cost-effectively changed through policy action.
This assumption not only overlooks the already mentioned backlog of unrealized energy productivity improvements that can reduce energy bills immediately if implemented starting now. It also ignores that the rate of technological progress is itself influenced by climate policy: the adoption of near-term reduction goals will induce accelerated technological and organizational innovation.
In addition, U.S. experience and engineering-economic studies suggest that increased spending for government R&D and commercialization programs can accelerate cost reductions and could significantly advance the date by which new low-carbon supply technologies become cheaper than fossil-based energy carriers on a pretax basis. When cheaper energy technologies are brought into the market sooner, the larger cumulative savings in future years can easily pay for a severalfold increase in R&D spending on energy efficiency and renewable energy options.
Shifts of R&D resources towards these and other modular technologies would be economically efficient. Such technologies have been shown to offer the largest returns per R&D dollar because of short and inexpensive construction, testing, and improvement cycles and steep cost reductions in mass manufacturing, implying significant no-regrets emission reductions.
6) Strategic combinations of the above energy price, tax shift, and technology measures could deliver even larger cuts in U.S. carbon emissions while producing assured and significant economic gains. No modeling study to date has evaluated such an integrated approach for the U.S. Cautiously estimated, the above studies on no-regrets options suggest in combination that U.S. emissions could be cut by at least 20-30 percent below 1990 levels over 20 years, at a (discounted) cumulative gain in economic output of 0.5 percent and a gain in economic welfare (which includes the benefit of avoided non-climatic environmental damages) of about 1 percent. Expressed in terms of the double dividends that would be obtained in the final year of the policy period, economic output would grow by 0.5-1 percent ($50-100 billion per year), while welfare would increase by roughly 1-2 percent ($100-200 billion per year).
Fourth conclusion:
The stakeholders' predictions of hundreds of thousands of lost jobs from slower growth in the U.S. are the result of flawed policy assumptions and biased modeling calculations. More sensible strategies would enhance job creation.
The stakeholder predictions are driven by a combination of higher energy prices and lower income. The price effect is significant in only a very few sectors including the energy sector itself, certain heavy industries, and in some energy-intensive transportation services. These sectors represent less than 5 percent of U.S. jobs. Most job losses are based on the income effect arising from presumed losses in economic growth, which affects the economy broadly.
1) Under a well-designed no-regrets strategy, neutral to positive income effects and shifts away from capital-intensive energy production result in employment gains in most of the economy, while energy taxes and thus price effects are moderated. Because sectors that are net winners far outweigh the few sectors that suffer large price effects, the national result is net employment gains. Extrapolating from the stakeholder studies, U.S. job gains could be as high as several hundred thousand.
2) Adjustment costs borne by miners and coal-mining regions could easily be paid with a small fraction of the economic gains of a no-regrets strategy. The estimated national economic benefits of a well-designed no-regrets strategy ($50-200 billion per year) are 10 to 40 times larger than the entire payroll of the U.S. coal mining industry.
Fifth conclusion:
Predictions by status quo stakeholders of massive industrial relocations to developing countries stem from modeling biases, omission of no-regrets options, and neglect of proven policy instruments for insulating energy-intensive manufacturing industries from competitiveness problems.
The business and job flight predicted by the Global Climate Coalition arises from the claim that high carbon taxes (roughly $200 per ton of carbon) would be needed to stabilize emissions, and much larger taxes to bring about emission reductions.
1) The need for high carbon taxes is an artifact of the strongly pessimistic bias in the model used by the GCC. Just moving to a more representative model would reduce required carbon taxes to about $50-100 per ton. The bias of model choice is compounded by the omission of no-regrets policy option's that would reduce impacts on businesses: investment and/or payroll tax relief through tax shifts, incentives and credits for energy efficiency investments, and productivity gains from accelerated technological innovation.
2) As one of its benefits, an integrated no-regrets strategy has the effect of significantly lowering the level of carbon taxes required to bring about emission reduction goals (to as little as $20-50 per ton). In effect, market transformation programs and R&D for low-carbon investments raise the average energy price elasticity in the economy because the ability of energy users to respond to higher prices with energy productivity measures is enhanced.
3) With a carbon tax of $50 per ton plus tax shifts, trade-exposed industries seeing a more than 2 percent rise in costs represent a mere 2 percent of total U.S. jobs. All other jobs in the U.S. economy use so little energy as to remain substantially unaffected, or their products cannot be displaced by imports (e.g., energy production or transport services).
4) Though the number of energy-intensive jobs that could be lost to foreign competition is small in the bigger scheme of things, these manufacturing jobs are worth keeping. To eliminate carbon-tax related trade threats to these industries, border tax adjustments, energy efficiency tax credits, and other proven instruments can be used. These options are not acknowledged in the stakeholders' claims.
Sixth conclusion:
The method proposed by status quo stakeholders for protecting a small minority of potential economic losers -- i.e., postponing climate action -- would unnecessarily tie the U.S. to an unsustainable energy past while wasting opportunities for a timely shift toward a sustainable economy.
Studies suggest that the competitiveness of the U.S. in the 21st century will depend on its technological efforts, not on cheap natural resources. Low-carbon technology markets in the area of energy efficiency and renewable energy are highly know-how intensive and offer opportunities for strong export growth. These technologies already constitute a market of more than $110 billion in annual sales worldwide, with about one fifth of this market in the U.S. Opportunities for U.S. companies to excel in this rapidly growing field are strong on account of the country's technology innovation infrastructure.
Seventh conclusion:
Contrary to the claims by status quo stakeholders, decisive and early climate action by the U.S. (and other industrialized countries) will have a multiplier effect and moderate emissions in developing countries.
Strong no-regrets action will not only lead to money-saving cuts in U.S. carbon emissions, but will also moderate emissions from fossil energy use in developing countries. The accelerated innovation induced by early U.S. action, and the earlier availability of cheap low-carbon supply alternatives will spill over into the developing countries through increased trade and associated technology transfers -- a dynamic that is not captured in the international trade models cited by stakeholders.
These trade models also fail to take into account policy options for enhancing this spill-over effect by redirecting bilateral and multilateral lending programs. Not only would developing countries be able to shift their large and growing infrastructure investments to low-carbon technologies sooner; they would also benefit from earlier declines in their own costs of energy services. Indeed, once the U.S. begins to move decisively toward a low-carbon energy system, other countries including developing countries will have difficulty remaining competitive without themselves adopting the same energy productivity measures.
Professor Mark Diesendorf
Director, Institute for Sustainable Futures
University of Technology, Sydney
PO Box 123, Broadway NSW 2007, Australia
email: Mark.Diesendorf@uts.edu.au
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