The Economic Crisis and Low Carbon Recovery Plans

Posted by Dieter Helm on 6 March 2009

 The credit crunch and the subsequent banking crisis are largely to be explained by leverage and debt, in turn based upon high levels of consumption and low levels of savings. Consumption has been unsustainably high. In response to the economic crisis, the US and the UK (and others) are taking actions to try to hold up consumption by householders and increase public sector spending. This is a short term response, which goes against the medium and longer term need to rebalance economies away from consumption towards higher levels of savings and investments.
 

Amongst the investments which are public priorities are those which help the transformation from a high to a low carbon economy. It is therefore argued that some of the large public expenditure increases should go towards low carbon investments. Unsurprisingly a host of lobby groups have identified a large “climate change pork barrel” and are competing for these potential subsidies.

 

The investment requirements for the low carbon economy are considerable – and the costs are likely to greatly exceed the 1% GDP costs suggested by the Stern Review. Indeed if the costs were as low as the Stern Review suggests, they would be comparatively trivial as against the scale of the macroeconomic stimuli currently underway.

 

In this context it is also important to recognise that current targets for CO2 reductions are based upon carbon production not carbon consumption. They therefore greatly understate the contributions of emissions from developed countries like the US and UK, since they omit imported energy and carbon intensive goods. By way of example, since 1990 UK carbon production has fallen by around 15%, but carbon consumption has gone up by about 19%.

 

There is therefore an urgency for investment in low carbon technologies at a very significant scale and cost. The link to the macroeconomic stimuli is tenuous, however, for two main reasons. First, at the heart of the carbon problem is the need to move towards a sustainable consumption path. The excessive consumption of the boom has undoubtedly exacerbated emissions (and the increasing coal burn in relative and absolute terms that went with it), and explains in part why the C02 concentrations are steadily marching up to 400 parts per million. The recession is reducing emissions. The faster the recovery ahead of a switch to low carbon technologies, the bigger the adverse impact on emissions. Unpalatable as it may seem, from a purely climate change perspective, the economic crisis has actually brought some respite from the relentless increase in consumption-driven emissions.

 

Second, the time dimensions are out of line. The measures taken to deal with the economic crisis are designed to be quick in their effect – with a timescale of months or a few years in mind. The low carbon investment horizon is medium term, with plans congealing around 2020 targets. Whilst some acceleration in building new plant may have some immediate macroeconomic effect, most of it does not. The exception is energy efficiency measures, where it is argued that insulation and related measures can be “shovel ready” quickly. Speeding this process does not however need to be directly linked to the fiscal stimuli: since advocates of energy efficiency argue that much of it is already NPV positive, there are obvious ways of financing these measures against the regulated asset bases of the transmission and distribution businesses in the UK at least. Utility regulation provides the appropriate policy tools.

 

There is also a concern that tying low carbon investments to the short term stimuli packages may indeed be “short term” – that in the event of a sharp recovery (and the associated risks of inflation) public expenditure will be cut back sharply and there will then be a “stop-go” impact on the decarbonisation process.

 

For these reasons, it is important to keep separate the urgent need for a major national and international effort to decarbonise the global economy, a process which is medium to long term and which will be much more costly than the 1% number in the Stern Review, on the one hand, and the short term macroeconomic need to promote consumption and lending on the other. There are obvious areas where extra spending may be helpful for low carbon activities, but these should not distract from the challenge over the next three decades for an environmental transformation.

 

The G20 summit provides an opportunity to look beyond the immediate economic crisis towards the huge challenge of decarbonisation. A commitment to base a post Kyoto international framework on consumption rather than production, to establish a long term price of carbon, to massively increase R&D spending, and to provide the means for developing countries to industrialise without major increases in (predominantly coal-based) emissions would be of much greater significance than a short term fiscal stimulus.

 

 

Dieter Helm
Professor of Energy Policy
University of Oxford