Why economists don't know all the answers about climate change

Paul Klemperer

03 August 2007

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Disagreement is usually more instructive than consensus, and economists’ current debate about climate change is no exception. It reveals three important questions that have gone largely unanswered in popular discussions. But though economists have exposed the questions, we need the scientists, the sociologists and the philosophers to answer them.

The root of the problems is that the costs of preventing climate change start now, while many of the benefits come in a hundred years or more. If growth continues at its recent historical rate, world GDP per capita will be at least five times higher in 100 years. So we should not feel too obliged to make sacrifices that make future generations even richer, any more than our grandparents should have given up their only television so that we can have yet one more set in the house. But it doesn’t mean that because most likely climate-change scenarios leave economic growth broadly unchanged, we can stop worrying: it simply means that the outcomes that really matter in cost-benefit calculations about climate change are those that are so disastrous that they wipe out the benefits of economic growth.

These outcomes may matter even if they are unlikely, just as the risk of your house being gutted by fire also matters. Even if the costs of mitigating climate change turn out not quite as small as the 1% of GDP that the Stern Report estimated, we might still be happy to pay them to prevent a small chance of catastrophe – just as most of us insure our houses even though we know the insurance companies make money from the odds they offer us.

This, then, is the first question: how likely are the catastrophes against which we should be paying an “insurance premium”? We do not know the answer because there is little that serious scientists feel comfortable saying about the likelihood of truly disastrous events, such as feedback effects turning the planet into another Venus, as some distinguished scientists argue is possible. We urgently need research to tell us the likelihood of disastrous outcomes.

The second crucial uncertainty is that we do not know what future generations will regard as disastrous outcomes. Views change: 200 years ago many people thought slavery was reasonable, and 100 years ago women were commonly assumed inferior. Tastes about the environment can change surprisingly fast – it seems hard to believe now that the US government came within an ace of flooding the Grand Canyon to produce hydropower as recently as 1966, before being thwarted by so-called “extremists”. (Not that the lesson has been noticed - perhaps in 40 years time the Chinese people will be stunned that their government flooded the Three Gorges.) When I was young, vegetarianism seemed restricted to eccentrics, but today many of my students regard my meat eating as unethical, and there is increasing awareness of the similarity between us and other animals.

So do we know, for example, how our great-grandchildren will feel about the likely extinction of several million of the world’s species? Maybe they will feel that, despite their fabulous wealth, and despite being awash with mobile phones and super-high-resolution TVs, they have actually experienced a catastrophe.

The third critical question is the ethical one: how much should we care about the future? Nick Stern and his allies evaluate costs and benefits using real interest rates that discount the future very little except for the effects of economic growth. Many of his critics use interest rates at least 2 % higher which, compounded over a hundred years, values the welfare of our great-grandchildren less than one-seventh as much as Stern does.

Current market interest rates are more similar to those used by Stern’s critics, but those rates tell us only about individuals’ willingness – possibly irrational – to invest today for benefits tomorrow. How much society should spend on unborn generations is a somewhat different question.

Is it morally correct to value our great-grandchildren one-tenth as much as ourselves? Should we instead use a lower discount rate, or one that falls over time from the current market rate – which reflects the cost of forgoing alternative investments – to a rate more like Stern’s in the more distant future? Furthermore, how cautious should we be on our descendants’ behalf when deciding whether the “insurance premium” is a good buy? Is human welfare the only criterion anyway? These are questions for philosophers as much as for economists.

In short, it’s all about our great-grandchildren, stupid, and we need the scientists to tell us more about what will happen to them, the sociologists to tell us what they will think about it, and the philosophers to tell us whether we should care what they think. Posing these awkward questions may make economists unpopular, but we are used to that.

This article summarizes remarks Paul Klemperer made at a January 2007 conference. A shorter version was published in the Financial Times, May 11, 2007.

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Topics:  Environment

Tags:  climate change

Edgeworth Professor of Economics at Oxford University and CEPR Research Fellow

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