Who is really fiddling while the climate burns?

Ross Gittins sprayed most economists on climate change policy last weekend ("Economists fiddle while climate burns", the Sydney Morning Herald, and The Age).

Unsubstantiated assertions about motivations behind (unnamed) economists favouring a carbon tax over the emissions trading scheme (ETS) embodied in Australia’s Carbon Pollution Reduction Scheme (CPRS) dominated his piece. I can’t read other economists’ minds, but I can speak about my own motivation, and my reasons for opposing ETS in general and the CPRS in particular.

Gittins (correctly) notes a carbon tax or an ETS can deliver the same emissions reduction and price of carbon. One does so by putting a price on carbon (and forcing a reduction in emissions). The other does it by limiting the supply of permits to emit, raising the price for (scarce) permits. In principle, either approach could work.

But then Gittins asserts “most” economists favour a carbon tax because “they believe it would be easier politically”. Really? Most economists understand politicians hate new taxes. Taxes are (or can be) transparent. It’s also clear who’s to blame for them.

Most economists understand the CPRS, with permits issued mainly high up the supply chain, is easier politically. It’s less transparent. It panders to misapprehensions that nasty big polluters will pay, and blurs the reality that increased costs will flow to consumers.

Most economists also understand that the CPRS is likely to be ineffective in reducing emissions (more on this shortly) and inefficient (consuming excessive resources).

Second, most economists would agree with Gittins on political courage (i.e., there’s not a lot about). Europe’s ETS experience shows it hasn’t had the courage to limit permits enough. European Kyoto targets have been more honoured in the breach than in the observance. The carbon price has tanked as permits are flogged by cash-strapped companies during the global financial crisis. European permits are a new “sub-prime” asset (sic).

Third, Gittins claims trading in permits via the CPRS “fits in better with what other countries are doing”. What are they doing? The European ETS covers about half its CO2 emissions and 40 per cent or less of its total greenhouse gas emissions. Most other countries (so far) aren’t “on board”. In terms of new contributions to emissions, major industrialising countries almost certainly will not “come on board” at Copenhagen in December 2009. International trade in permits is just another form of “carbon leakage”.

Fourth, Gittins recycles the fallacy much favoured by Minister Penny Wong. This is that an ETS delivers certainty about emissions reductions (by controlling the supply of permits). A carbon tax (which sets the price, but not the quantity, of emissions) doesn’t.

This emissions reduction “certainty” is only true if:

1. Australia is a closed economy, or
2. the CPRS is adopted by all nations at the same time. Neither describes climate policy reality.

Unilateral adoption of the CPRS will deliver neither emissions reduction certainty nor price predictability. Globally, our CPRS could as likely raise emissions as lower them due to “carbon leakage” as industries at the margin shift to jurisdictions not adopting such a policy. It’s the worst possible option.

A carbon tax allows a steady, predictable, ramping up of the price of carbon over time, allowing business (and, ultimately, consumers) to plan against this prospect and shift to lower emissions technology and more efficiency in energy use.

Kyoto has failed. Much of the world had not adopted ETS-type policies. Most that have will miss the emissions targets they pledged to meet (unless the “Great Recession” is really bad). They’ve adopted policies that effectively exempt large slabs of their emissions production. This situation won’t change as a result of Copenhagen, December 2009.

Why? The policy model is wrong. It’s based on emissions production. A global deal on production made sense under the model envisaged before the United Nations Framework Convention on Climate Change (UNFCCC) in 1992. Ironically, the original European vision was the harmonised introduction of a global carbon tax!

The 1997 Kyoto Protocol shattered the foundations for that model. It allowed different countries - notably developed versus developing countries - to act on climate change at different times. Suddenly, trade competitive disadvantage appeared as a corrupting virus affecting climate policy deliberations. The Kyoto Protocol contains the mutation of the UNFCCC vision responsible for its failure.

The cancer will get worse.

Countries are sliding into protectionist measures because of the global recession. Ignore pious G20 communiqués and the like. They’re all cheating (we are too) - e.g., via the multiplying “buy local” campaigns. It’s hard enough stopping countries doing the equivalent of raising tariffs on imports and adding subsidies for exports. It’s much harder to sell a policy that puts a new tax on exports and a negative tariff on imports. So it should be. It’s dumb.

That’s what the CPRS requires of Australia.

Because of these “negative tariff” effects, those supporting the Kyoto policy model will continue to fiddle, while the climate change problem they claim to be worried about continues to build.

Gittins’ claim that “most” economists are fiddling while the climate burns, at best, is a case of the pot calling the kettle black. Ross, put your climate policy bow down. Your music ain’t pretty and your fiddle’s no Stradivarius. Your support for a new market in funny bits of paper (the CPRS) after the fall-out from the global financial crisis is also puzzling.

My motivation?

I’d like to see adoption of a policy model that maximises chances of getting a global deal, as soon as possible, but starting with recognition that the real world will not deliver simultaneous adoption of climate change policy. This reality means production-based models will continue to fail. We need a new policy base.

Gittins has highlighted the carbon tax/ETS debate, but has ignored this more important debate. To accelerate prospects for a global deal on climate change, we need to shift from a national production-based policy model to a national consumption-based policy model. But that’s a topic for another article.