Download Global Warming and Economic Policy

Sustainability Economics
• The Walrasian system
• Weak Sustainability - climate change
example
• Behavioral economics – what’s different?
• What can Neuroeconomics add?
• Research questions
U = f(X, Y)
Q = f(K,L)
Production of Goods
Preferences for Goods
MRS’s equal
MRTS’s equal
Efficiency for the whole economy MRS1 = MRS2 = RPT
Walrasian welfare economics
• General equilibrium model – a
mathematical proof that a competitive
market economy will optimality (most
efficiently) allocate society’s scarce
resources.
• This is the central idea in neoclassical
welfare economics.
• The proof doesn’t work unless preferences
are “self-referential”. One person’s wellbeing is unrelated to anyone else’s.
Proof of Competitive Efficiency
• 1. Efficiency in exchange (MRS’s equal)
• 2. Efficiency in production (MRTS’s equal)
• 3. Efficiency in production and exchange
together (RPTX for Y = MRS’s)
• First Fundamental Theorem of Welfare
Economics
• If preferences are not self-regarding the
condition for Pareto optimality is exchange
is NOT the equality of MRS’s.
Max Σt=1 U[c(t),P(t)](1+r)-t
Net National Product = Hicksian income
Natural Capital

Manufactured
Capital

Human
Capital
Neoclassical Sustainability
Weak sustainability is a financial
investment model
• How should an individual investor allocate
investment so as to maximum the
discounted flow of income?
• Goal is maximize the discounted flow of
money.
• In this framework there is no problem with
measurement (money is the thing you
want to maximize), interpersonal
comparisons not a problem (you want to
maximize the amount of money you have).
Depletion of “natural capital”
4%
Growing Forest
5%
Money in the bank receiving interest
Whether or not to cut down the forest depends on the rate the
trees are growing and the rate of interest. Walrasian economics is
a financial investment model applied to everything.
Weak sustainability
Maintain the growth of GDP (economic
output)
Everything that gives people “utility” can be
priced and put into the market.
This is called Hicksian income after the
economist John Hicks
The evolution of neoclassical
(weak) sustainability
• 1. Maintain economic growth
• 2. Maintain the capital stock necessary to
support continued economic growth
(Harkwick-Solow)
• 3. Recognize that “capital” includes the
services of the natural world. (DasguptaHeal)
• 4. Recognize that past economic growth
has come from drawing down the
environment. (Karl-Goren Maler)
Net National Product = Hicksian income (g in discounting equation)
Natural Capital

Manufactured
Capital

We’re growing by destroying this.
Human
Capital
Assumptions of Weak
Sustainability
• Equilibrium and marginal valuation
• Commensurability of wants (it is possible to put
everything is in money terms)
• Methodological individualism (“society’s” wellbeing is merely the sum of the well-being of all
individuals) Each person’s well-being is
independent of all others. The fiction of a
“representative agent” also does this.
• An increase in NNP is an increase in society’s
well-being (utility, welfare, total happiness)
Pearce and Atkinson WS
•
•
•
•
•
•
•
•
An economy is sustainable if
Z = [(S/Y) – (δM/Y) - (δN/Y)] > 0
Z is an index of sustainability
S is savings
Y is national income
δM is the depreciation of manufactured capital
δN is the depreciation of natural capital
This is the World Bank’s “Genuine Savings” indicator
Nauru and Weak Sustainability
• Nauru is a tiny island in the South Pacific
• Phosphate was discovered on Nauru in 1900
• During the past 100 years, almost the entire
island was rendered uninhabitable by phosphate
mining
• “natural capital” was transformed in “financial
capital”
• In the 1980s Nauru’s trust fund amounted to
more than $1 billion US.
• Calculations show that it was “weakly
sustainable”
Nauru today
• Trust fund disappeared because of bad
investments, corruption, and the Asian financial
meltdown of the 1990s
• Now Nauru has no natural resources, its
environment has been devastated, and it has no
source of income
• Shows that you can’t substitute back and forth
between “natural” and “economic” kinds of
capital.
• Gowdy and McDaniel Paradise for Sale
Strong Sustainability
• Herman Daly – Steady State Economics
• Rule 1. Use renewable resources at a rate equal
to or less than their natural rate of regeneration.
• Rule 2. Use non-renewable resources at a rate
less than or equal to the rate of technological
change (increasing efficiency in use or
extraction, or finding new substitutes)
• Rule 3. Waste flows for the economy should be
less than the assimilative capacity of the
environment
• Keeps “natural capital” intact (sort of)
Weak vs. Strong Sustainability:
The Economic Debate
• Advocates of strong sustainability have
often fallen into the trap of accepting the
basic premises of welfare economics
• So the debate is narrowed to determining
the degree of substitutability between
“natural” capital and other kinds of capital
• In many formulations of SS the goal is still
to maintain the flow of per capita income
William Nordhaus Climate Change
Model
• Nordhaus is the best known economist
writing about global warming.
• Applies the Walrasian model to global
warming.
• Very controversial even among
environmental economists but widely cited
by conservative groups like The Cooler
Heads Coalition and The Heartland
Institute
The Nordhaus Model
• Nordhaus’ (1992, 2001) models of global
climate change use an objective utility
function (DU) of the form:
T
• Max Σt=1 U[c(t),P(t)](1+r)-t
• Total utility (social welfare) is equal to the
flow of per capita consumption c(t) at time
t times population P(t) at time t.
• With a discount rate of r
The present value of $10,000 at
5% interest
10K
Present
value
8K
6K
4K
0
23
47
71
Years into the future
95
More Nordhaus Assumptions
• Nordhaus' conclusion is that aggressive climate
mitigation policies are too costly from society’s
point of view, based on the financial investment
model.
• “a vague premonition of some potential disaster
is insufficient grounds to plunge the world into
depression” (Nordhaus 1990)
When smart people make dumb
mistakes – Herman Daly
• Nordhaus 1991 “Agriculture, the part of the
economy that is sensitive to climate
change, accounts for just 3% of national
output. That means there is no way to get
a very large effect on the U.S. economy.”
Economic Output
Climate Change
Mitigation
A
Society’s
Capital Stock
Choose option B only if it adds more to
Economic output than does option A
B
Discounting and Global Warming Policy
• The Nicholas Stern Report
• The discussion among conventional
economists (Dasgupta, Nordhaus, and
Weitzman, for example) at first focused on
the choice of a discount rate.
r=α+ηg
• r = social discount rate
• α = rate of pure time preference
• η = elasticity of utility from consumption
•
%∆ utility / %∆ consumption
• g = projected growth rate of per capita
income
r=α+ηg
• r = social discount rate
• α = Stern used 0.1
• η = elasticity of utility from consumption
•
Most models use a Bernoulli function
•
(logarithmic) with
•
η=1
• g = projected growth rate of per capita income
Stern used 1.3%
r=α+ηg
•
•
•
•
Money or well-being?
What do we owe the future?
Bromley – “regency” approach
Future tastes, future economic systems
are unknowable
• Biophysical requirements?
• All the issues we’ve talked about, wellbeing, discounting, behavior all come into
focus with climate change.
Partha Dasgupta October 2007
• “Climate change and biodiversity losses
are two phenomena that are probably not
amenable to formal, quantitative economic
analysis. We economists should not have
pressed for what I believe is misplaced
concreteness.”
In the long run stabilizing annual
emissions is not enough
• If we want to stabilize the climate at the
lower range of temperature projections
• (2-3 C) we need to rapidly phase out
(carbon from) fossil fuel use.
• Alternative sources are currently
supplements, not substitutes. Jevons
effect, rebound effect
• CO2 emitted from fossil fuels stays in the
atmosphere for at least 100 of years and
probably 1000s of years (David Archer)
2010 (390ppm)
Economic Output
Climate Change
Mitigation
A
Society’s
Capital Stock
Choose option B only if it adds more to
Economic output than does option A
B
Nordhaus 1991
• “Agriculture, the part of the economy that
is sensitive to climate change, accounts
for just 3% of national output. That means
there is no way to get a very large effect
on the U.S. economy.”
• Herman Daly “When Smart People make Dumb
Mistakes”
What does behavioral science
have to do with climate policy?
• Regularities in behavior that were
once considered “irrational” (and
dismissed by standard economics)
are critical to predicting and
influencing human behavior.
• It’s the “irrationalities” that make us
human!
Harper (1982) ducks on a
Cambridge UK pond
Pigeons and students (sunk costs)
Neuroeconomics
• Confirmed behavioral science results
• Identified parts of the brain that deal with
specific kinds of decisions
• The degree of human sociality is unique
among mammals.
• Von Economo neurons (spindle neurons)
Von Economo neurons
• “We hypothesize that the VENs and associated
circuitry enable us to reduce complex social
and cultural dimensions of decision-making
into a single dimension that facilitates the rapid
execution of decisions. Other animals are not
encumbered by such elaborate social and
cultural contingencies to their decision-making
and thus do not require such a system for rapid
intuitive choice.”
• Allman et al.
Homeostasis not Equilibrium
• NGR viability
• No discounting the future
• Diversity and stability – redundant systems
Gulf Oil Spill
CO2 from a coal fired power
plant
Homeostasis seems to be the
key to understanding living
systems
• The human brain – behavior and
consumption (hypothalmus)
• Human social systems – living of flows not
stocks
• Fund
flow
Georgescu-Roegen
• Holling “resilience”
• Diversity and stability
• Redundant systems
The destruction of ecosystem
functions in Keti Bunder
• Jaats switched from farming to fishing – use
small mesh nylons nets and this is crashing
the adult fish populations
• Increased number of camels eating
mangroves
• Increased salinity from both sea intrusion and
less fresh water coming downstream
• The mangrove area in 2006 was about half of
what it was in 1988.
Mangroves
• Used to be 17 species, most have
disappeared.
• This probably means a loss of evolutionary
potential to adapt to the effects of climate
change.
Climate change – melting glaciers feeding
The Indus
Reduced downstream
flow of fresh water
Dams, agriculture and other diversions
of fresh water
Indus river
Climate changeIncreased upstream
flow of salt water
Figure 1. Threats to Mangroves in Keti Bunder
Overharvesting, pollution,
damage from camels
Survey and In-Depth Interviews
• In April 2009, together with the WWF-Pakistan, we
administered a detailed questionnaire to Keti
Bunder residents to help understand the
perceptions of the community regarding
ecosystem health, the role of ecosystem services
in community well-being, vulnerably to climate
change, and possible institutional responses to
environmental disruption.
• We believe that these survey results can be
generalized to many coastal village communities
throughout South Asia.
Survey results
• Over the past 20 years Keti Bunder residents
almost unanimously report:
• (1) a decline in the health of mangroves,
• (2) the depletion of the stocks of major fish
species, and
• (3) an increase in extreme weather events.
• These negative trends are the result of complex
interactions between exogenous physical changes
(climate change and the reduced availability of
fresh water) and changing patterns of resource
use within the villages (overfishing and the
destruction of mangroves).
Human behavior
• Understanding the evolution of
behavior is critical
• Plasticity of human behavior
• Incentives are socially constructed
• The degree of cooperation in human
groups is unique
• Almost any kind of behavior is
possible in human societies
Climate Change, Neuroscience and
Behavioral Economics
•
•
•
•
1. Incentives mean more than money.
2. Well-being is more than income.
3. The macro economy is not a firm.
4. Economies are part of human
societies.
• 5. Human societies are part of a
biophysical system
Nicholas Georgescu-Roegen
• “Only economists still put the cart before
the horse by claiming that the growing
turmoil of mankind can be eliminated if
prices are right. The truth is that only if our
values are right will prices also be so.”