GHGs, externalities and economic growth

The Stern review states that, "the benefits of strong, early action will considerably outweigh the costs" in respect to the global problem of climate change. Human activity over the next few decades will severely impact the socio-economic structure of the world. If mitigating measures are not put into effect within the next decade, the cost estimated for tackling climate change will reach horrendous propositions. Sir Nicholas Stern has said that, "climate change is going to be the world’s biggest market failure".

One of the biggest problems in the 21st century is poverty, especially in the third world nations. As a direct consequence of climate change, the poorer countries will be affected disproportionately in comparison to the richer world. Developing countries are heavily dependent on agriculture; the primary sector is the most climate-sensitive of all economic sectors. There has already been a wide-spread impact of agricultural productivity in many countries due to climate change and this is only expected to worsen if correction measures are not put into place. As these countries do not have enough resources, adaptation to climate change is going to be very difficult as they are particularly vulnerable.

Other impacts of climate change include:

• The displacement of a large proportion of people living in low lying areas like Bangladesh and the Netherlands due to rising sea levels.
• Migration of tropical diseases like malaria and Dengue fever from the tropics to the temperate zones
• In countries like Scandinavia, temperature rise will affect infrastructure, local health and biodiversity
• Wide spread water scarcity
• Increased cost of damages by storms, hurricanes, forest fires, droughts etc. Hurricane Katrina is a good recent example
• Heat waves in Europe, like the one in 2003 which cost the economy $15 billion will become commonplace in the middle of the century
• Developed economies could affect financial markets through higher and more volatile costs of insurances for storm damages etc.
• Apart from all these, the loss of human lives through enhanced natural disasters like tsunamis, heat waves, hurricanes and drought will have a hugely negative impact on global economy

Greenhouse gas emissions are a negative externality and are therefore viewed as a social cost. Externality is a social cost or benefit resulting which arises unintentionally during the production process; this is the source of difficulty in dealing with it. In other words, as far as society at large is concerned, less of the pollutant good should be produced. However, the unintentional nature of its existence puts no moral obligation on the polluter to reduce production. Therefore, governments form policies in order to force producers to consider the ramifications of their production to society as an integral part of their costs. In other words, to 'internalise' the externality.

There are several policy measures to mitigate or control this particular externality. The oldest form of policy has been an extreme one that is unlikely to occur again due to the subtler form of current pollutants. This is ‘blanket banning’, which has been most successfully implemented by the Montreal Protocol of 1987, targeting the obsolescence of substances that deplete the ozone layer. It is predicted that the atmosphere will be completely free of Chlorofluorocarbons (CFCs) and other halogenated hydrocarbons in 2030. Now, according to the Stern review, the three main policy tools for mitigation are: carbon pricing, technology policy and the removal of barriers of behavioural policy; all three are equally important.

Carbon pricing and emissions trading:
Carbon pricing can be achieved by putting a price on it through trade or taxation and also by regulation. National governments decide on the maximum pollution abatement and distribute it equally in the form of tradable pollution permits, being conscious of the weighting difference to be granted between heavy and light producers, i.e.: they set a national production quota. Then they auction these permits to corresponding producers, while encouraging those that actually produce under the quota to make a profit by selling their 'pollution rights' to other producers. This is a significant incentive for industries to follow this measure and improve production, as the successful firms will have great monopoly power in setting a price for the extra pollution they have managed to reduce.

Furthermore, governments may seek to additionally or alternatively tax output on the grounds of pollution. This is a more direct measure, as it immediately forces the firm to consider the social cost in its balance flow.

Hence, under carbon pricing, industries will be forced to seek low-carbon alternatives to production to maintain current output levels and, thus, keep their individual market shares. The Kyoto Protocol of 1997 is a good example of the ‘cap and trade’ method of emissions trading.

Policies have an important impact on public finances. Policies depend on the countries’ national circumstances. As said, some countries choose either taxation or trade, while most use a mix of both. The EU-SDS is a good example of the European effort to cut emissions. The strategy’s basic aim is to follow the Kyoto target and reduce emissions roughly by 8% by 2008. Therefore, to tackle this, the strategy focuses on clean energy consumption by launching first the European Climate Change Program (ECCP), which handled indirect disincentives for excess energy use. Specifically, the measures taken by this initiative include imposing taxation on the use of energy products and enforcing energy quotas for heavy production units, such as factories and large corporation buildings.

Developing technologies:
Technology policy covers the full spectrum from research and development to demonstration and deployment. Particular examples of interest lie in the aforementioned EU-SDS. These are: the development of bio-fuels and alternative energy resources, such as solar, wind and even nuclear energy; greater independence of agencies policing national waste and litter regulations to promote eco-tourism and eco-trade; the amelioration of models and applications used in environmental cost-benefit analysis.

The EU strategy provides incentives to invest in new technologies through already existing carbon pricing policies and additional subsidies. Thus, they contribute to the Stern review’s prediction that "markets for low-carbon energy products are likely to be worth at least $500bn per year by 2050, and perhaps much more".

Removal of barriers of behavioural change:
The foremost important course of action to achieve the training and re-training of economists into the 21st century perception of 'green economics', not as an awkward hybrid of two disparate topics of analysis, but rather a logical and necessary next step to a continuously growing social science.

Unfortunately, the faults in the above policy measures are still great. Direct carbon pricing policies, such as taxation and trade, fail to correct the externality to any significant degree. Taxation is an uncertain measure, as the appropriate amount of tax on output is difficult and costly to determine. Emissions trading schemes are rendered unimportant as the chief incentive of producers is to exceed their quotas in the short run; this may go undetected very easily due to a current lack of resources in setting up monitoring mechanisms.

In addition, the strategy’s lack of clarity in defining rates of return and benefits for producers make the latter skeptical and, ultimately, unwilling to undergo any such alteration. Moreover, in terms of developing technologies, many low-carbon technologies are still expensive in comparison to fossil fuel alternatives. Technology for carbon capture and storage is only just being developed and still has not reached the full spectrum of its uses.

The only way out from this quagmire of doubt, uncertainty and indecisiveness is to fix our eyes firmly on the goal for inter-generational equity and push through.