Monday, July 12, 2021

Rossi-Hansberg on the effects of a carbon tax

I was inspired to think again about climate economics from Esteban Rossi-Habnsberg's excellent presentation at the  Hoover Economic Policy Working Group. Link here in case the above embed does not work. Paper here, (with Jose Luis Cruz Alvarez), slides here. Previous introductory post here. 

There is a lot in this paper and presentation, and I'm going to try to stick to one topic per post. 

Like most economists, my knee jerk reaction to climate change is "carbon tax." In particular, a carbon tax instead of extensive regulation. Given that we're going to have a climate policy that discourages carbon emissions, a uniform price on carbon emissions is the only sensible and effective way to do it. (Whether tax, tradeable rights, or other mechanism doesn't matter for this purpose.) I would add remove barriers to alternatives, such as nuclear power, and a healthy expenditure on basic science of alternatives. 

With that in mind, I was stunned by these graphs:



Carbon taxes do not stop climate change. They just postpone it. They do postpone it substantially. In the bottom graph, we get 4 degrees rather than 6 by 2100. But still, we're at the same place by 2300. 


Here are the GDP effects. (In this model, warming does hurt GDP, quite a lot, which I will return to in the next blog post.) Cutting out carbon costs a lot of GDP now, in return for mild increases later. 
At impact, the implementation of a uniform proportional carbon tax reduces the use of fossil fuels, which makes energy more expensive overall, and thus reduces income and welfare...initially, carbon taxes reduce firm innovation since potential current profits decline, and therefore reduce the growth rate of the economy. Of course, as time evolves, the flattening of the temperature curve has beneficial effects on amenities and productivities, leading to higher real income and welfare, as well as higher growth rates. Eventually, the curves in Figure 19 cross one, meaning that the implementation of the carbon tax is, on average, beneficial after that period. In the long-run, real GDP and welfare keep increasing due to a larger global population.
Since there is no long-run benefit to the climate, the only long run benefit flows through their assumptions on population size. Endogenous fertility is something we know very little about, so I would not put too much weight on costs and benefits of carbon policy that work through encouraging larger fertility, and I'm not sure climate advocates regard larger population as an unalloyed benefit. 

For standard cost-benefit analysis, using currently popular very low discount rates, that fact really cuts down the benefits. 
we chose a baseline discount factor of β = 0.965. For this value, carbon taxes are not desirable today....However, if we increase the discount factor to β=0.969, a carbon tax of 200% or more maximizes welfare and real GDP. This large sensitivity of the optimal carbon tax is natural given the path shown in Figure 19 and cautions us not to rely too heavily on PDV statistics that dependent specific values of the discount factor.  
If you think that global warming is a "crisis," an "existential threat," the prelude to the end of civilization or life on earth, such a postponement is not worth much at all. "Let's postpone climate change" doesn't really get the young activists out to the barricades, does it? 

Unlike many black-box climate models, the intuition here is straightforward and compelling, in the "why didn't I think of that?" sort of way. We sit on a pool of fossil fuels, which cost more and more to drain.

(Actually, I think this is mostly coal.) We can use fossil or "clean" energy, which are good but imperfect substitutes. This is an important point. The time of day and weather sensitivity of "clean" energy, means that for the moment we still need fossil backup. Completely substituting away from fossil fuels is harder than using a little bit. There are also uses for which fossil fuels are much harder to substitute. Airplanes, for example, are a lot harder to electrify than cars, since batteries are heavy. Shooting billionaires into space will be hard to electrify. Don't forget fossil fuels and other carbon emissions of making windmills, electric cars, and biomass. 

Thus, we use fossil fuels, they get more expensive, and we start to substitute to clean energy. The more expensive the fossil fuels, the more we substitute, but we always keep using them a little bit until we have used up all the fossil fuels. (Their meteorological model apparently does not remove carbon that quickly, because that is one mechanism by which postponement would lower overall quantity.) 

In this mechanism, a carbon tax just makes extraction more expensive. We use less energy overall, contributing to the short term decline in GDP, and substitute more to "clean" sources. But we still drain the pool. 

You may say, this proves those silly economists were wrong all along, damn the carbon tax bring out the regulations. But this point holds equally no matter the mechanism. If regulators (and now central banks) achieve the same substitution out of fossil fuels via mandates, regulation, de-funding, and so on, the amounts burned and GDP effects are the same. We just hide the costs and do it much less efficiently; burning fossil fuels in economically less valuable but politically privileged activities and substituting away from them in extremely costly other activities. The carbon tax still dominates regulations, by doing the same thing more efficiently, burning the carbon we do burn in places where it does the most good. 

So, really, this graph is a damning indictment of all anti-carbon policy. 

How can we undo it? Where are the hidden assumptions? Fortunately, they are not hidden! 

The first central assumption is the substitution elasticity between carbon emitting and clean energy, set here at 1.6. That's quite elastic, but not infinitely so.  


with epsilon = 1.6. 

The standard vision in policy discussions assumes infinite substitutability. As soon as the cost of clean energy is lower than the cost of carbon-emitting energy, everyone substitutes completely to the latter and the oil and coal stay in the ground. This is the key question. What the graphs make clear is that the majority of carbon must stay in the ground (or go back there) if we want to avoid a large temperature rise. (Again, I do not quibble with the climate side of the models here. Whether the large temperature rise actually hurts GDP is a separate issue, which I'll return to in the next post.) But as long as the elasticity of substitution is finite, as here, then the carbon comes out of the ground. As you use less and less, the remaining uses become more and more valuable, so it's worth it, privately and to society, to keep using it although at lower scale. 

So I learn from this that a key focus for R&D is not so much on lowering the cost of alternatives, but increasing their substitutability for fossil fuels. Just because the cost of solar cells is plummeting does us little good. We need to increase their substitutability.  This consideration once again points to nuclear and carbon capture and storage as really important technologies. We're really talking about how to replace coal-fired base-load electric plants in parts of the world that badly need electricity. Nuclear and capture and storage, though they might not be the least expensive, seem to offer much better substitutability options.   That both are forbidden topics in climate debates is sad. Substitution also involves other large carbon emitters. It's hard to make steel and concrete without emitting lots of carbon. 

This thought emphasizes a point that Bjorn Lomborg hammered away on in many different ways during a previous presentation: Simply making carbon more expensive will not work.  
 
The second key assumption is the static cost curve. Again, I won't dig into the sources, but you see the obvious objection. Fracking. There has been a lot of technical change in fossil fuel extraction. I see more of that in oil than coal, but it has been true in coal too. (I went back a few years ago to the coal mine exhibit in the Museum of Science and Industry in Chicago, a childhood favorite, and the tour leader explained that this is really now an exhibit of coal mining history -- nothing is done this way anymore, rather by machines 10 times the size. Recommended before they take it out in the name of climate.) 


Here is the real price of oil. Not much trend. Innovation that reduces costs can reduce fossil fuel costs as well as reduce the cost of alternatives. That obviously cuts the other way and leads to more CO2 emission. 

On to the big question, how much is the GDP cost of climate change... 



52 comments:

  1. The carbon tax (tradable rights, extensive regulation, etc) have another interesting effect - provided people expect this climate policy regime to be reasonably stable, the innovation in improving carbon-efficiency of various things becomes more valuable, and the innovation in improving hydrocarbon extraction becomes less valuable. This might very well affect the elasticity of substitution over time. I don't think this was accounted for, was it?

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  2. "Simply making carbon more expensive will not work."

    No, no, no! 'Twill work, but in the vent of no or little substitution, a high price of carbon works through reducing our income. That'll reduce demand for energy!

    The question remains open: Is any of this policy worth it?

    My opinion, for me alone, is a resounding no.

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  3. doesn't postponement mean more time for the r&D you recommend to get us to some new wonder technology, e.g. fusion, or even just to people wising up and realizing nuclear and carbon capture need to be part of the equation?

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    1. The last bullet from the presentation of this paper:

      "[Carbon taxes] highly effective only in combination with future abatement technology"

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  4. Bill Gates talks about this same issue of elasticity in different terms (green premium). You somehow have to solve carbon emissions in primary energy, and also in steel, cement, etc. A lot of basic science still needs to happen between now and 'net negative'. So delaying catastrophe could be valuable if we think those other problems might be solvable with more time

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  6. I think buying a few decades is worth it.

    Small nuke plants and solid-state batteries can be brought online.

    Maybe some form of carbon sequestration.

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  7. So the problem is that while in a theoretical world higher prices induce substitution by alternative solutions, that doesn't necessarily happen in a real world, if the alternative solutions defy the laws of physics. Which leaves us with carbon taxes effectively becoming a turnover tax on carbon intensive sectors of the economy. And as the cost increases, so does the tax, which has to ultimately distort how taxation is allocated across the economy and distorting the tax mix. But standard of living is strongly correlated to energy consumption. So what is the dead weight of this tax mix we are adopting?

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  8. There is one dominant factor here that isn't really considered: endogenous productivity growth in the energy sector (and more broadly, in material economics).

    The larger the market of solar panels or wind turbines, the faster the price of solar panels or wind turbines falls from one year to the next. The larger the market for batteries, the faster their cost falls from one year to the next (and their longevity in terms if charge-discharge cycles is growing, energy density is growing, power density is growing, stability is improving, etc). The more inter-continental HVDC power transmission capacity we construct each year, the faster the cost of those cables falls. The larger the market for an industrial good (and capital goods in particular), the faster we should anticipate improvement towards inherent physical limits.

    And there are many physically viable endgames of a substitution away from fossil fuels. There is abundant potential for solar or wind primary generation (and there are other options too). A global HVDC grid would be viable, wouldn't require much material, and would confine the need for long term storage/ fuels to vehicles. P2G (ammonia, synthetic methane or synthetic longer chain hydrocarbons) would allow for cheap global energy distribution, storage and vehicle fueling. Where the cheapest energy source is electric, much of industry will quickly adjust; where relative feedstock prices move, industry will adjust.

    ___


    The western world (in particular) benefited from precisely this dynamic with oil and natural gas during most of the 20th century. So much so that coal use has massively declined. We stopped using whale oil completely. Wood burning is niche (no longer so prevalent in kitchens). The value of these resources doesn't increase particularly as their utilization falls; if anything it tends to fall, as the socially prevalent substitutes are more convenient.

    Already today, alternatives to fossil-fuel energy sources and industrial feedstocks are competitive in some geographic regions and sectors. In other areas, they are marginal substitutes. For a large area of activity, alternatives are not close to being competitive.

    A carbon tax will cause some substitution in areas where alternatives were near-marginal. This substitution is statically inefficient, so it entails a (very small) short term loss of GDP. However, it increases the size of the market for fossil fuel substitutes, and so accelerates the pace of productivity growth for substitutes. In time, as substitutes get cheaper, the GDP loss gets smaller (and may ultimately turn into a GDP gain).

    Furthermore, as more energy and industrial activity transitions to renewable primary energy sources, less economic activity is impacted by a marginal change in the CO2 tax. A CO2 tax can therefore be increased at increasing pace over time, in order to largely eliminate net anthropogenic CO2 emissions.

    In a world of cheap renewable ammonia or synthetic methane, why would anyone pay a CO2 tax to dig out coal or natural gas? Beyond a certain point, the lack of supporting economic infrastructure becomes a constraint on fossil fuel extraction too: if you want to have whale-oil fueled lights at home, you won't just have trouble getting decent gas lights: you'll have to kill your own whales and boil the blubber to extract the oil. When most of the world stops using coal, oil and gas, those things will tend to become less useful than they are today.

    ___

    Unambiguously, if a CO2 tax (or anything approximating it) can be introduced and enforced, then the total amount of CO2 emitted by mankind while decline. This isn't a mere matter of delay: if we accelerate substitution to alternatives, and if we thereby accelerate growth in the productivity with which alternatives are provisioned, then emissions fall faster and reach net zero sooner.

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    1. Anonymous,

      "Furthermore, as more energy and industrial activity transitions to renewable primary energy sources, less economic activity is impacted by a marginal change in the CO2 tax. A CO2 tax can therefore be increased at increasing pace over time, in order to largely eliminate net anthropogenic CO2 emissions."

      Except when the recipient of those carbon taxes is a large emitter of CO2 itself:

      https://theconversation.com/us-military-is-a-bigger-polluter-than-as-many-as-140-countries-shrinking-this-war-machine-is-a-must-119269

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    2. Militaries seem to be on track for less pollution. Unmanned drones require a fraction of the energy of a manned plane. Precision bombing reduces the number of flights compared to carpet bombing. 'Cyberwar' with people sitting at desks means you don't even have to move people overseas.

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    3. Boonton,

      "Militaries seem to be on track for less pollution."

      Based upon what evidence?

      "Precision bombing reduces the number of flights compared to carpet bombing."

      Are you really that naive? Do you honestly think that once the bombs stop falling, the US military simply folds up shop and sends everyone home?

      From the article referenced above:

      "If the US military were a country, its fuel usage alone would make it the 47th largest emitter of greenhouse gases in the world, sitting between Peru and Portugal."

      "In 2017, the US military bought about 269,230 barrels of oil a day and emitted more than 25,000 kilotonnes of carbon dioxide by burning those fuels. The US Air Force purchased US$4.9 billion worth of fuel, and the navy US$2.8 billion, followed by the army at US$947m and the Marines at US$36m."

      And that is during an era of relative peace when there are not massive troop deployments and overseas bombing.

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    4. FRestly,

      You're not really engaging my point. No one said the US military turned green. No one said the US military does not consume a lot of fuel. How is it not the case, though, that the shift to precision tactics and unmanned craft drastically reduces consumption? The moment you take humans out of an aircraft, you eliminate a lot of mass and systems dedicated to just keeping the human safe and somewhat comfortable. The moment you can do a mission with 100 troops rather than 10,000, you've cut out a massive amount of logistics.

      Do you have any evidence or reason to think this trend is not going to keep going into the future rather than reverse?

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    5. Boonton,

      "However is it not the case, though, that the shift to precision tactics and unmanned craft drastically reduces consumption?"

      Not really. The complex electronic control system inside a drone more than makes up for the weight of a pilot.

      https://www.af.mil/About-Us/Fact-Sheets/Display/Article/104470/mq-9-reaper/

      Weight: 4,900 pounds empty
      Maximum takeoff weight: 10,500 pounds
      Fuel Capacity: 4,000 pounds (602 gallons)
      Range: 1,150 miles (1,000 nautical miles)

      Fuel economy = 1,150 / 4,000 = 0.287 miles per lb of fuel
      Max payload weight = 10,500 - 4,900 - 4,000 = 2,000 lbs
      Payload capacity = 2,000 / 10,500 = 19.05%

      https://www.af.mil/About-Us/Fact-Sheets/Display/Article/104505/f-16-fighting-falcon/

      Weight: 19,700 pounds without fuel
      Maximum takeoff weight: 37,500 pounds
      Fuel capacity: 7,000 pounds internal
      Range: more than 2,002 miles ferry range (1,740 nautical miles)

      Fuel economy = 2,002 / 7,000 = 0.286 miles per lb of fuel
      Max payload weight = 37,500 - 19,700 - 7,000 = 10,800 lbs
      Payload capacity = 10,800 / 37,500 = 28.8%

      From the above comparing an MQ9 Reaper (drone) with a F16 Fighting Falcon (manned jet), fuel economy (miles per lb) is about the same, but the MQ9 drone has a lower payload capacity (19.05%) compared with the Falcon (28.8%).

      The obvious advantage for the drone is that human pilots are out of harms way (for the most part).

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    6. Ferry range of an airplane is not the combat range. The quoted ferry range includes drop tanks, so much more then 7000 lbs - probably more like double that. And that's not a combat range. Combat range seems to be more like 300 miles. Without checking your reaper numbers, the comparison becomes:

      Reaper 2000 lbs bombs * 1150mi / 4000 lbs fuel = 575 bomb pound miles per pound fuel
      F16 8000 lbs bombs * 330mi / 7000 lbs fuel = 377 bomb pound miles per pound fuel

      I suspect you will get better numbers with other planes.

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  9. I think geo engineering could be a worthwhile solution. I'm not sure why it's not discussed at all.

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    1. I think rather obviously because it might allow us to keep burning fossil fuels. Same with capture and storage. Imaging huge nuclear/solar plants in the desert that remove carbon from the air. Shh. Climate policy has turned into answers in search of a question.

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    2. James,

      It is being discussed.

      https://www.cnbc.com/2021/01/31/carbon-capture-technology.html

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    3. Geo engineering is not discussed as much because:
      1. It would take a massive amount of energy, that would add to the problem.
      1.1 If you happen to have a massive amount of energy, why not just offset dirty energy with it? If you have a huge nuclear/solar plant covering the desert powering carbon removal filters, wouldn't it be cheaper to just close down the coal plant and use that power directly?

      2. Most people whose brains haven't been addled by excessive economic study recall the Nursey Rhyme about the old lady who swallowed a fly.

      3. If it was practical, it would have been explored locally already. Aside from some minor cloud seeding, no one has tried altering climate on a local level even though there's a huge amount of money to be made if you can pull things off like ensuring consistent rainfall during a season in an agricultural area.

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    4. Boonton,

      "Geo engineering is not discussed as much because:
      1. It would take a massive amount of energy, that would add to the problem."

      As long as it is "Green" energy (zero net CO2 emissions), why is the quantity of energy a problem?

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    5. Why address the underlying cause in the first place? The effects are the real problem and they are able to mitigated for a fraction of the cost of carbon capture for at least 80 years and probably much longer.

      Coral reefs are only in 1% of the ocean and we are talking about PH changes in the range of about 0.1-0.2 by 2100. Just add alkalines in those areas to treat that. Less sensitive reefs could also be seeded in.

      Temperature too hot, while causing increased precipitation, forest fires , worse storms and heat waves. Add aerosols to reflect the radiation before it heats things up.

      Sea level is rising, build dams around the ice flows to stop the sea melting the ice. You could actually on net reclaim land if you wanted to by building dams. Studies have been done showing it is alot cheaper to simply dam the ice then to mitigate the carbon.

      In actuality if you stop atmospheric co2 around 981ppm you hit the max level pf co2 for increased greening seen typically in greenhouses. We are on par to hit that at about 2100.

      City smog the real issue? Create local restrictions to take the health concerns into effect.

      That gives us more then enough time to deal with reducing or co2 levels. Pump the natural gas based co2 underground. Phase-out the coal plants. Build more nuclear, especially ones like the Thorium Reactors China has brought online. Electrify the industries that are worth doing so. You actually can electrify space flight if you want. You use the electricity to create liquid hydrogen which just forms water when burned. Similar things could be done for planes.

      If you are talking about c02 capture per capita in the US that is about 16 tons per person per year. At a cost of $100-$200 per ton if would cost between $1600 and $3200 a year to remove. Any of the above changes would bring that amount lower. If you allow more time for GDP growth the amount that has to be paid becomes a negligible percent of your GDP per capita. Around 5% of your GDP is pretty high but bringing it down to around 1% or lower will fix the problem without too much pain.

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  10. Larry Kotlikoff raised this kind of issue years ago. Let me give a simple version.

    Suppose their is a large but fixed reserve of fossil fuels which can be extracted at constant marginal production cost. The reserves are owned by private profit-maximizing firms.

    Policymakers use rising carbon taxes over time to limit fossil fuel use, or subsidize alternative energy.

    Those who own the reserves face the reality that demand should fall over time. In the limit, any reserves left in the ground will have no value (stranded costs). The rational strategy is to increase extraction NOW to get whatever money they can get. Get it while you can! Exhaust reserves faster. That reduces market prices now. It is the Hotelling model turned on its head. People like the lower prices, and it slows the transition to alternative energy.

    One solution is no-phase-in for carbon taxes: do the full tax hike immediately (and refund the money to avoid a negative shock to aggregate demand).

    Could a quantity scheme work better? Not cap-and-trade for CO2, but for fossil fuel use itself as a way to force a reduction in burning of fuel. The permits would be tradeable, of course, for efficient allocation, and the permits can be stored (but no monopoly ownership).

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    1. Anonymous,

      "One solution is no-phase-in for carbon taxes: do the full tax hike immediately (and refund the money to avoid a negative shock to aggregate demand)."

      So the plan is to tax people for using fossil fuels, and then (fearing loss of aggregate demand) return those taxes right back to people so that they can spend the money on - wait for it - fossil fuels.

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    2. While you could minimize the impact of the All-In Carbon Tax by refunding the entire proceeds, you would need a political class capable of not using the revenue it for other purposes in addition to the taxes already collected. I have written many times that a carbon tax should be remitted on an equal per capita basis to each and every citizen if one is going to go this route, but I also realize it is terribly naive to expect such a thing.

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    3. "Those who own the reserves face the reality that demand should fall over time. In the limit, any reserves left in the ground will have no value (stranded costs)." Could you clarrify that? Why would demand fall over time? Are we assuming subsidies for alternative energy are successful? If they are not then why would the guy who owns the last oil field in the world or last coal mine or last whatever see decreasing demand into the future?

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    4. The optimal trajectory of the tax on NET emissions would take account of the prices of fossil fuels whose levels of production would not necessarily fall to zero, depending on the cost trajectory of capture and storage.

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    5. "So the plan is to tax people for using fossil fuels, and then (fearing loss of aggregate demand) return those taxes right back to people so that they can spend the money on - wait for it - fossil fuels."

      One plant makes a car using a coal plant for heat and pays a carbon tax.
      Another plant does it using nuclear and does not.

      When I get may 'carbon tax Andrew Yang dividend' check for $5,000 and I go look at cars to buy, do I put my down payment on the one that costs $33,000 or the one that costs $30,000? If they are the exact same make, model, style, etc?

      Look at it another way. Alcohol has taxes on it. If we didn't tax alcohol, other tax rates would be higher so we are all getting an implicit credit because of the alcohol taxes. Do we go out and buy an equal amount of alcohol because of that? Well do you think the alcohol industry spends money to lobby against increasing the alcohol tax? If they do why would they if it doesn't actually impact total sales at the end of the day?

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    6. Boonton,

      "One solution is no-phase-in for carbon taxes: do the full tax hike immediately (and REFUND the money to avoid a negative shock to aggregate demand)."

      The quote said refund - not redistribute.

      If the coal plant in your example pays a carbon tax and then is refunded that tax directly back - what has changed?

      "If we didn't tax alcohol, other tax rates would be higher so we are all getting an implicit credit because of the alcohol taxes."

      First, perhaps other taxes should be higher than they are - which tax should be higher - the tax on alcohol or the tax on cigarettes? And so it could be said that the tax on alcohol keeps the tax on cigarettes lower than it should be.

      Second, absent a tax on alcohol, other taxes could remain the same if the government either lowered total expenditures the limit it's financing needs or borrowed or sold equity to finance it's expenditures.

      Lowering / eliminating one tax does not mean that other taxes must be raised in the same way that adding a tax (for instance a carbon tax) means that other taxes will be lowered.

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    7. This comment has been removed by the author.

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    8. Corrections:

      Second, absent a tax on alcohol, other taxes could remain the same if the government either lowered total expenditures TO limit it's financing needs or borrowed or sold equity to finance it's expenditures.

      Lowering / eliminating one tax does not mean that other taxes must be raised in the same way that adding a tax (for instance a carbon tax) DOES NOT MEAN that other taxes will be lowered.

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    9. The owners of the reserves will not increase the demand for their resource by lowering their price below their marginal cost (MC), to do so would not be profit-maximizing behavior. They will, instead, raise the price of the commodity (cartel-like) to MC plus the 'carbon tax', i.e., the price increases to P' = P + CT, where CT is the carbon tax rate/unit of production, and P = MC of the owners. Demand is reduced by η x CT/P where η = {price elasticity of demand} of the 'fossil fuel'. A typical value of η is -0.30%/1%.
      Assuming that the annual compound growth rate for the carbon tax levy is 11-2/3%/yr, the reduction in annual pollution emissions over ten years will be 30% from the level prior to the imposition of the carbon tax. At this rate, it will take 79.2 years to bring the remaining reserve level to 1/16th of the original reserve level, during which time the owners would have received 0.9375 their original investment back (discount rate = r = opportunity cost of capital employed). i.e., an accounting profit, but not an economic profit.
      The owners will not accelerate depletion of the reserves under a 'carbon tax' regime--they earn the opportunity cost of capital, r (risk-adjusted).
      Provided the backstop technology does not cost less than P after application of an annual subsidy of CT, all parties are satisfied with the status quo. (EV vehicles and IC vehicles existing alongside one another, for example.)

      Curtailment of production of 'fossil fuel' energy by application of a declining production quota lowers government revenue and raises government transfers to non-energy producers and consumers to offset rising the 'fossil fuel' price (assumption: 'fossil fuel' imports are banned). Reducing the production quota annually raises the product price without affecting the marginal cost of production. The resource owners realize economic profits even as their production rate declines. The government is required by political and budget considreations to impose an 'excess profits' tax on the producers to eliminate the economic profits and cover government transfers to households and businesses (to compensate for the effect of rising energy prices).
      The production quota scheme is inefficient.

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  11. I guess the key question becomes: how invariant is this substitution elasticity parameter? My guess: it increases pretty fast over time.

    As recently as 20 years ago, you would find articles left and right saying that no way we would have any viable range on electric cars given how heavy batteries were. Look where we are now. And I bet that multiple decades ago, a commentator somewhere probably said that electricity could never replace coal or gas to heat homes...

    When it comes to science fiction economics, we are very much short-sighted. In any case, basic risk aversion tells me that doing something is one heck better than doing nothing, if only in order to buy us some time to drive that substitution elasticity to infinity.

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  12. I simply want to comment about John's last question: "On to the big question, how much is the GDP cost of climate change... "
    The loss in GDP is NOT the "big question", because GDP is not the right measure, even though in a growth model that 'GDP' may stand for the single output produced in the world economy. Nordhaus' welfare function tries to reflect the 'bad' that comes with producing q = GDP using energy generated with carbon-intensive fossil fuels or with less harmful sustainable low carbon use energy sources (incl. nuclear).
    The 'black-box' climate models simply reflect the not so astonishing fact that CO2 emitted in the atmosphere has a long life span (up to 20 years ?) and therefore reducing CO2 emissions now cannot undo the damage of past emissions lingering on, and therefore temperatures rising is already built in to some degree. - Since geography is in the title of Esteban's talk, and migration is studied as an 'adaptation' mechanism: often the migrations caused by higher drought incidence lead to wars (rather than a peaceful adjustment - example: Syria in recent years, with more to come). While wars and climate-caused higher storm, flood and fire incidences also increase our traditionally measured GDP, they certainly do nothing to increase human welfare. To reduce the dangers arising from climate-related migration (beyond what is already baked in by past emissions) and destruction of currently habitable land (i.e Southern California), a benign social planner would possibly use a version of the Esteban's model.
    However, we do not have a benign World government. Climate related policies adressing climate change in several hundert countries with very different views by the governing regimes will be extremely difficult to achieve.

    Therefore, an environmental activist will rationally ask for extreme solutions (eliminate fossil fuels and carbon-generating human activities) to achieve an improvement (2nd or 3rd best path given a 'reasonable world welfare function'), i.e. a path weaning off the world economy from the climate damaging activity.

    A global carbon tax high enough to achieve change in the climate path is already an optimistic scenario, and of course in reality carbon-capture, nuclear energy (i.e. in France and possibly many more countries) together with already needed adjustments to the baked-in path of rising temperatures and more volatile weather patterns & warmer oceans --> they all will be part of an actual growth path with actually reducing fossil fuels (and other CO2 emitting activities).

    So, let's not blame climate activists who are simply advocating for an idealized world (no carbon emissions), when indeed the 'economic' counter argument is highly idealistic as well, since failure to both adapt to climate change and move away from carbon emitting human activity bears a high risk of terrible human misery (if not 'suicide' for mankind).



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  13. So, according to the graph, if the model is reliable (Big IF -- of course it is not), some politician has to stand up and tell the voters that they will have to wait for about 200 years until GDP creeps up to the level it would be without a carbon tax. That means enduring a lot of schools not built, hospitals not improved, parks not created, pollution not treated -- because we simply won't have the money to do such things.

    "Vote for me and in 10 generations your remote descendants will begin to thank you."

    Consider what the world was like in 1820 -- before the US Civil War, the Europeans Crimean War, the English Opium Wars on China, World War I, World War II. 200 years is a long time! And a very tough sell -- if the electorate is properly informed. (Another very big IF).

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  14. William Fletcher

    My impression is that these economic models don’t take into account some important factors such as the following:

    The long-term trend is toward the displacement of fossil fuels by renewables driven by the declining cost of renewables.

    Cost and technology trends are positive. Electricity from renewables is rapidly becoming the least expensive form of energy. The cost and performance of batteries are also improving. All major car manufacturers are committed to the rapid development and production of electric vehicles. There are other positive trends.

    These cost trends are likely to continue due to growing economies of scale and technology improvements.

    Fossil fuels are heavily subsidized today receiving subsidies estimated to be $5.0 trillion per year. The biggest subsidy is the emission of greenhouse gases and other pollutants into the atmosphere for free. It shouldn’t be free. This subsidy is worth approximately $100/ton. A carbon fee could offset all or some of these subsidies and accelerate the transition to renewables.

    A carbon fee would be a source of revenue for governments to pay for some of the programs needed to stop global warming or mitigate its effects. Subsidizing renewables requires additional revenues that governments don’t have and would probably be debt financed.

    Eliminating fossil fuel use would eliminate most air pollution, a big bonus.

    To date, we have not had a global warming wake up call, a Pearl Harbor or 9/11 event. We may never have one. However, we can’t assume the increase in the earth’s temperature and associated climate change will continue to be slow and linear. There are potential tipping points that could lead to abrupt and irreversible changes. The sooner we can slow down or stop global warming the better.

    The US is in a race with China. China is ahead of the US and Europe in the manufacture and use of wind turbines, solar panels, batteries, electric vehicles and nuclear power plants, anticipating these will be major new global growth industries. Many of the green jobs the current administration is counting on could wind up in China.

    I hope these comments are useful.

    ReplyDelete
  15. 1. Why are we considering a model that talks about 2300? Like are we consulting models from 1720 for their predictions of today?

    2. The gist of this argument is, and correct me if I screw this up, since people are going to get richer over time, a carbon tax is useless because by 2300 anything not burned up in 2021 will get burned up in 2300 since people will just pay the tax and not care.

    Thing is, though, this would be a sensible place to 'tax the rich'. The people of 2300 will be much richer than any of us, therefore let them have the tax of climate change then. This is, of course, assuming no real technology changes, no different sources of energy, everything stays the same except we all keep getting richer and in 2300 we will burn that last gallon of gas we saved from 2100. Well ok then let the people of 2300 deal with climate change if they must.

    ReplyDelete
    Replies
    1. Boonton,

      "1. Why are we considering a model that talks about 2300?"

      For the same reason we are looking at atmospheric carbon dioxide levels that predate the industrial revolution.

      "2. The gist of this argument is, and correct me if I screw this up, since (fill in a whole host of reasons), a carbon tax is useless because (repeat whole host of reasons)..."

      You got it.

      Delete
    2. "For the same reason we are looking at atmospheric carbon dioxide levels that predate the industrial revolution."

      This is a known amount and it is set in the past so it cannot change. The amount of carbon emitted in 2300 can be changed either by changes in human behavior or by shifts in technology we cannot predict with a model (if we could, then the model makers would be better off running to the patent office rather than publishing their paper).

      The fact that the model says you'll shift emissions out 200 years with a carbon tax does not seem so 'stunning' to me as much as it is just an artifact of the model being pushed out over the horizon.

      Delete
  16. An extra hundred years or so to improve alternative energy sources enough to zero out carbon emissions one way or another. We have nuclear, biofuel, solar, wind, improvements in energy storage, carbon capture, and whatever else comes up during that time. And a heavy tax on fossil fuels plus a bounty on carbon capture would accelerate progress by driving investment in research.

    What am I missing here? I thought we already knew all along that the point of a carbon tax was to buy us time to develop better alternatives.

    ReplyDelete
  17. Looking at the paper this makes me worried for the output:

    "Our baseline analysis matches the global temperature
    dynamics from 2000 to 2400 in the IPCC RCP 8.5 scenario almost exactly"

    8.5 is the outcome we know, absolutely, is not going to happen already. So, calibrating our model to the outcome we know isn't going to happen is, umm, odd? Off even?

    Another way of putting this point is that we've already taken actions which prevent 8.5. Therefore a claim that actions won't prevent 8.5 is more than a little odd.

    This seems to fail:

    " However, the reduction in carbon use also implies that more carbon is left unexploited on Earth,
    which yields lower future extraction costs. The implication is that carbon taxes primarily delay the use of
    the carbon on Earth, rather than decreasing its total use. This has the effect of flattening the temperature
    curve, with lower temperatures for long periods of time, but with little impact over the very long-run."

    Atmospheric carbon is not a permanent pollutant. It does come out of the atmosphere. Delay, enough delay, therefore reduces peak.

    "Of course, this result also implies that carbon taxes can be particularly effective in combination
    with abatement technologies. If abatement technologies are forthcoming, delaying carbon consumption
    has tremendously positive effects since the effect of future emissions is abated using the new technology.
    Thus, our results strongly suggest that carbon taxes should be combined with incentives to invent effective
    abatement technologies."

    And a change in relative prices is not an incentive to produce abatement technologies?

    Seems a very confused paper to me.

    ReplyDelete
  18. The paper seems to make three questionable assumptions: 1) The carbon tax is on gross rather than on net emissions of CO2. A net emissions tax reduces the early costs somewhat and could eventually stop and reverse the increase of CO2 in the atmosphere. 2) It is unclear why an excise tax should reduce investment. Why would the deadweight loss fall on investment rather than consumption? 3) The model seems based on a single tax rate over time rather than a constantly or periodically re-optimized one.

    Furthermore, what are the growth/net reductions tradeoffs over time. This (and therefore the optimal tax rate) ought to depend on both future technological change in net CO2 emitting technologies and in climate change harm mitigation technology and investments.

    Perhaps the paper is best seen as a criticism of a certain narrow conceptualization of carbon taxation and overregulation of net reduction technologies such as nuclear and geothermal.

    ReplyDelete
  19. Actually, we can produce hydrocarbons from electricity, water and carbon dioxide. This includes methane (easy) and ethanol (more difficult, but can be processed into energy dense fuels). Of course the process is relatively expensive and it does not make economic sense to do it as long as we are generating electricity from fossil fuels. But the point is that we have the technology to produce a perfect substitute for fossil fuels for renewables (or nuclear), contrarily to the paper's assumption. So a sufficiently high carbon tax combined with credits for carbon capture would work. As a bonus, methane is better for long term power storage than batteries, and possibly better than high tension lines for transporting energy over very long distances.
    Of course this would still be way expensive if we want to do it in a rush... But probably better than many other options.

    ReplyDelete
  20. There's a clear problem with the analysis here that really should be in the first paragraph: the cost of climate change.

    If there's no cost to a hotter world, there's no point in stopping it. The implicit assumption of a climate crisis is that there is a cost to hotter weather. With this assumption, setting the carbon tax is easy.

    First, figure out the PV cost of carbon emissions. This can be expressed as the marginal cost of burning fuel. If the alternative is simply to delay a hotter (and more expensive) world, this can be expressed in a different PV.

    Second, we can price the carbon in terms of the cost to offset those emissions by planting things or making CO2 transformation factories or whatever.

    If emissions are taxed at the price it takes to fix them, this won't just be a delay issue.

    Without discussing the actual economic costs of a warming earth, you haven't quantified the problem. Obviously, you're going to have a problem finding the solution if you haven't identified the problem.

    Given the above, all the discussion about fertility and GDP growth is obviated.

    ReplyDelete
  21. Jacobo and Brandon Berg made excellent points about substitutes and delay.

    The paper assumes we will burn all fossil fuels eventually. This is incorrect. We can leave most coal and oil in the ground. A carbon tax is the most efficient way to reduce CO2 emission soon.

    We can use electricity to make methane from CO2 and H2 from water, and we can make gasoline from methane. We can use biological processes to make liquid fuels from CO2. We don’t need to burn coal for anything but we need liquid fuels for aircraft.

    The carbon tax is an important part of the most efficient path to net zero.

    ReplyDelete
  22. Jacobo and Brandon Berg made excellent points about substitutes and delay.

    The paper assumes we will burn all fossil fuels eventually. This is incorrect. We can leave most coal and oil in the ground. A carbon tax is the most efficient way to reduce CO2 emission soon.

    We can use electricity to make methane from CO2 and H2 from water, and we can make gasoline from methane. We can use biological processes to make liquid fuels from CO2. We don’t need to burn coal for anything but we need liquid fuels for aircraft.

    The carbon tax is an important part of the most efficient path to net zero.

    ReplyDelete
    Replies
    1. "Politics is the art of looking for trouble, finding it everywhere, diagnosing it incorrectly, and applying the wrong remedies" - Groucho Marx

      Delete
  23. "We can use electricity to make methane from CO2 and H2 from water ..."

    It is a good thing that electricity grows on trees, then. An unlimited free supply! Why am I thinking of the song "There's a Hole in My Bucket, Dear Lisa".

    We certainly could use nuclear fission to create heat & electricity to make liquid hydrocarbon fuels. If we wanted to pursue this approach, the most efficient approach would not be a Carbon Tax -- it would be a sensible roll-back of current regulatory over-reach on nuclear power. But the practical answer is to wait until we in the West have bankrupted ourselves with this nonsensical attempt to undermine the Carbon Cycle on which all life depends -- and then beg the Chinese to build us some of those ultra-modern nuclear plants they are furiously building, in exchange for whatever they want.

    ReplyDelete
  24. From the perspective of law makers, the shortcomings of a carbon tax are largely irrelevant, as the benefit is immediate incremental tax revenue they can spend on their favorite programs.

    ReplyDelete
  25. I subscribe to the Yogi Berra theory that "it's hard to make predictions, especially about the future." Models are notorious for their sensitivity to the bias of the modeler. One thing I can guarantee about the future is that when politicians and government bureaucrats involve themselves in important economic issues, whatever they do will 1) not solve the problem, and 2) make everything cost more.

    ReplyDelete
  26. Hmmm. The sum from i=0 to infinity of (1/10)(1/2)^i is less than 1.

    ReplyDelete
  27. The carbon tax should equal the cost of living in a hotter world. The recent floods in Germany and wildfires in California are good examples of the costs of a hotter world. If the taxes offset the costs, then we're in a good place.

    And of course, without discussing the costs of a hotter world, we aren't actually quantifying the problem so you're not going to get past first base.

    ReplyDelete
    Replies
    1. https://en.wikipedia.org/wiki/2020_California_wildfires

      "The 2020 California wildfire season, part of the 2020 Western United States wildfire season, was a record-setting year of wildfires in California. By the end of the year, 9,917 fires had burned 4,397,809 acres, more than 4% of the state's roughly 100 million acres of land, making 2020 the largest wildfire season recorded in California's modern history (according to the California Department of Forestry and Fire Protection), though roughly equivalent to the pre-1800 levels which averaged around 4.4 million acres yearly and up to 12 million in peak years."

      "Prior to development, California fires regularly burned significantly more acreage than has been seen in recent history. Wildfires have been aggressively suppressed in recent years, resulting in a buildup of fuel, increasing the risk of large uncontrollable fires. There is broad scientific consensus that there should be more controlled burning of forests in California in order to reduce fire risk. A 2020 ProPublica investigation blames the culture of Cal Fire, greed on the part of fire suppression contractors, and risk aversion on the part of the U.S. Forest Service from preventing appropriate controlled burns from taking place. A sharp increase in the population and development of fire-prone areas has also contributed to the increase in flammable tinder."

      "In August 2020, a suspect was charged by the Monterey County Sheriff with arson relating to the Dolan Fire; however, this has not been officially determined as the cause of the fire. In April 2021, another suspect, already arrested and charged for the murder of a woman, was charged with arson relating to the Markley Fire, one of the wildfires involving in the LNU Lightning Complex fires; according to authorities, the fire was set to cover up the aforementioned murder. Arson has also been suspected as the cause of the Ranch 2 Fire in Los Angeles County."

      So not only do we "need" a carbon tax, we need a federal tax on Cal Fire and the US Forestry service for poor land management practices, we "need" a tax on fire suppression contractors, and we "need" a tax on arsonists.

      Delete

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