Cato’s airy certainty David Steven

November 14, 2008 | More on Climate and resource scarcity | No comments

So, are the benefits that might flow from a carbon tax (defined at the monetarized value of the temperature reductions that might follow) greater than the costs of the same?  Energy economist Richard Tol’s review of the published economic literature suggests that the monetarized damages that follow from a ton of carbon emissions at the margin (if mean estimates of future climate change from the IPCC are to be believed) likely works out to about $2.  Hence, if a carbon tax is set above $2 dollars, it will may very well deliver more social costs than benefits. [Emphasis added].

Now Cato’s a libertarian think tank and not keen on taxes of any kind – but this is an attempt to discredit even revenue neutral carbon taxes (and, above all, to have a slug at Matthew Yglesias who has suggested that Cato “prefers to steadfastly defend the rights of industry to unload air pollution unimpeded” to backing good policy).

Now Tol’s paper is not in the public domain (and I was too mean to pony up $35 to purchase it), but have a look at the abstract:

One hundred and three estimates of the marginal damage costs of carbon dioxide emissions were gathered from 28 published studies and combined to form a probability density function. The uncertainty is strongly right-skewed. If all studies are combined, the mode is $2/tC, the median $14/tC, the mean $93/tC, and the 95 percentile $350/tC. Studies with a lower discount rate have higher estimates and much greater uncertainties. Similarly, studies that use equity weighing, have higher estimates and larger uncertainties. Interestingly, studies that are peer-reviewed have lower estimates and smaller uncertainties. Using standard assumptions about discounting and aggregation, the marginal damage costs of carbon dioxide emissions are unlikely to exceed $50/tC, and probably much smaller.

I am not an economist (and am certainly not “one of the most frequently cited experts in energy and environmental policy in the nation” which is how Taylor describes himself), but it does seem like he’s cherry picking the numbers here – and then adding in his own brand of airy certainty. Tol reckons that marginal costs are $50 for a tonne of carbon or less. Taylor reads Tol and comes away with a ‘likely’ estimate of $2.

Fortunately, Tol has an update of his 2005 paper, which is in the public domain. Here are the conclusions in full from the newer paper:

There are three implications. Firstly, greenhouse gas emission reduction today is justified. Even the most conservative assumption lead to positive estimates of the social cost of carbon (cf. Table 1) and the Pigou tax is thus greater than zero. Yohe et al. (2007) argue that there is reason to reduce greenhouse gas emissions further than recommended by cost-benefit analysis. The median of the Fisher-Tippett kernel density for peer-reviewed estimates with a 3% pure rate of time preference and without equity weights, is $20/tC. This compares to a  price of carbon permits of $160/tC in the European Union, 8 and a zero price in most of the  rest of the world. The case for intensification of climate policy outside  the EU can be made with conservative assumptions. One does not have to rely on speculation as in Schneider et al. (2007) or dodgy analysis as in Stern et al. (2006). At the same time, current EU climate policy seems to fail the cost-benefit test unless one puts a heavy emphasis on risk and uses a very low discount rate (cf. Tol, 2007, for  a more detailed discussion).

Secondly, the uncertainty is so large that a considerable risk premium is warranted. With the conservative assumptions above, the mean equals $23/tC and the certainty-equivalent $25/tC. More importantly, there is a 1% probability that the social cost of carbon is greater than $78/tC. This number rapidly increases if we use a lower discount rate-as may well be appropriate for a problem with such a long time horizon-and if we allow for the possibility that there is some truth in the scare-mongering of the gray literature.

Thirdly, more research is needed into  the economic impacts of climate change-to eliminate that part of the uncertainty that  is due to lack of study, and to separate the truly scary impacts from the  scare-mongering. Papers often  conclude with a call for more research, and often this is a call for  funding for the authors or a justification for further papers by the authors. In this case, however, quality research by newcomers in the field would be particularly welcome.

From this, one can conclude that Tol’s work supports taxes that are at least ten times higher than the figure Taylor latches onto. This figure shoots up much higher if you take seriously, as Tol does, the risk of catastrophic damage from climate change (see Martin Weitzman on this).

Tol is, I think it’s fair to say, not a fan of especially dramatic action to reduce emissions. He is also one of the more articulate critics of the IPCC (do read this essay if you get a chance); and a definite foe of the Stern Review. But even that’s not enough for Cato’s Taylor, who has to push his work much much further than its prepared to go.

Ironically, of course, this ends up proving Yglesias’s original criticism – that Cato is so blinded by what it would like to be true, that it is quick to abandon neutral analysis. Or perhaps I am missing something?

Update: It’s useful to have a closer look at Tol’s criticism of Stern – a criticism that leads him to suggest that cost benefit analysis cannot be the (sole) basis of a sound climate policy:

A cost–benefit analysis cannot be the whole argument for abatement. Uncertainty, equity, and responsibility are other, perhaps better reasons to act… We continue to think that the Stern Review is right for the wrong reasons, and we would have more faith in a climate policy that is right for the right reasons. We think that there are ample bits of evidence offered in the academic literature and indeed the underlying documentation of the Stern Review to make such a case – one that is “bullet-proof” and incontrovertible.

It would be good to know what he thinks can…

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