royal economic society
TRANSCRIPT
![Page 1: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/1.jpg)
Royal Economic Society
![Page 2: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/2.jpg)
Endogenous growth, convexity of
damages and climate risk: how
Nordhaus’ framework supports deep
cuts in carbon emissions
Simon Dietz and Nicholas Stern
London School of Economics
RES Manchester 2015
![Page 3: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/3.jpg)
![Page 4: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/4.jpg)
Gross underestimation of risk
• “There are very strong grounds for arguing
that [IAMs] grossly underestimate the risks of
climate change”
1a. Underlying exogenous drivers of growth (in one-
good models)
1b. Damage functions that only work on annual
output
2. Quantitatively weak damage functions
3. Very limited distributions of risk
![Page 5: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/5.jpg)
An illustration from Nordhaus’ DICE
• Production, without climate change
�� � � ��, �� � ������
�
• Production with climate change
�� � �1 � ����������
�
• The damage multiplier
��� � 1/�1 � ��� � ������
where π1 = 0 and π2 ≈ 0.003
• Temperature is a complex function of emissions, climate sensitivity = 3degC
![Page 6: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/6.jpg)
Examining the proposition
• In this paper we build on DICE by including
1a. Endogenous growth
1b. Climate damages to drivers of growth, i.e. capital
stocks or TFP
2. Strong convexity in the damage function
3. Large climate risk via climate sensitivity
parameter
![Page 7: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/7.jpg)
Endogenous growth (i)
• A model of capital damages and learning by investing (Arrow-Romer)
– Production
�� � �1 � ��������
�����
– Capital accumulation
��� � 1 � ��� 1 � �� �� � ���
– Partitioning of damages
��� � ���� ��
�� 1 ��1 � ���
�1 � ����
![Page 8: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/8.jpg)
Endogenous growth (ii)
• A model of endogenous TFP and damages to TFP
– Production
�� � �1 � ��������
���
– Capital and TFP dynamics
��� � 1 � �� �� � ������ � 1 � ��
1 � �� �� � !���
"#
– Partitioning of damages
�� � � �� ��
�� 1 ��1 � ���
�1 � �� �
![Page 9: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/9.jpg)
Convexity of damages
• Damage function suggested by Weitzman
(JPET, 2012)
�� � 1 � 1/�1 � ��� � ����� � �$��
%.'()�
• Three scenarios:
1. Set π3 = 0, i.e. standard DICE (‘Quadratic’)
2. Set π3 so that D = 0.5 at T = 6 (‘Weitzman’)
3. Set π3 so that D = 0.5 at T = 4 (‘High’)
![Page 10: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/10.jpg)
Climate sensitivity distribution-1 0 1 2 3 4 5 6 7 8
Source: own fit
of IPCC AR5
WG1, SPM
![Page 11: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/11.jpg)
Results: baseline growth
![Page 12: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/12.jpg)
Results: optimal emissions cuts
2015 2055 2105
Standard 16% 27% 45%
Quadratic damage 26% 59% 100%
Weitzman damage 31% 74% 100%
High damage 48% 100% 100%
n.b. TFP model, random S
![Page 13: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/13.jpg)
Results: optimal carbon prices
2015 2055 2105
Standard 44$/tC 106 237
Quadratic damage 110 435 1012
Weitzman damage 147 657 1012
High damage 329 1121 1012
n.b. TFP model, random S
![Page 14: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/14.jpg)
Results: optimal atmospheric CO2
![Page 15: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/15.jpg)
Conclusions
• Main aim was to explore assumptions
necessary and sufficient to sustain deep
emissions cuts at the optimum
• Examine proposition that standard DICE
grossly underestimates climate risks to
economy
• Shows deep cuts are optimal even if discount
rate is high
![Page 16: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/16.jpg)
Supplementary slides
![Page 17: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/17.jpg)
Results: baseline atmospheric CO2
![Page 18: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/18.jpg)
Results: baseline temperature
![Page 19: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/19.jpg)
Royal Economic Society
![Page 20: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/20.jpg)
R O Y A L E C O N O M I C S O C I E T Y
M A N C H E S T E R , 2 0 1 5
R I C K V A N D E R P L O E G
O X F O R D U N I V E R S I T Y
( W I T H A A R T D E Z E E U W )
CLIMATE TIPPING AND ECONOMIC GROWTH
![Page 21: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/21.jpg)
How to model catastrophes?
Real possibility that a discontinuous change in damages or in carbon cycle will take place. This change can be abrupt as with shifts in monsoonal systems, but loss of ice sheets resulting in higher sea levels have slow onsets and can take millennium or more to have its full effect (Greenland 7m and Western Antarctica 3m, say) and may already be occurring.
9 big catastrophes are waiting to happen, not all at same time.
Collapse of the Atlantic thermohaline circulation is fairly imminent and might occur at relatively low levels of global warming. This affects regions differently, but we capture this with a negative TFP shock.
We look at TFP calamity and also at K, P and climate sensitivity calamities. Expected time of calamity falls with global warming.
![Page 22: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/22.jpg)
Possible Tipping Points Duration before
effect is fully realized (in years)
Additional Warming by 2100
0.5-1.5 C 1.5-3.0C 3-5 C
Reorganization of Atlantic MeridionalOverturning Circulation about 100 0-18% 6-39%
18-67%
Greenland Ice Sheet collapse at least 300 8-39% 33-73%
67-96%
West Antarctic Ice Sheet collapse at least 300 5-41% 10-63%
33-88%
Dieback of Amazon rainforest about 50 2-46% 14-84%
41-94%
Strengthening of El Niño-Southern Oscillation about 100 1-13% 6-32% 19-49%
Dieback of boreal forests about 50 13-43% 20-81%
34-91%
Shift in Indian Summer Monsoon about 1 Not formally assessed
Release of methane from melting permafrost Less than 100 Not formally assessed.
Probabilities of Various Tipping Points from Expert Elicitation
![Page 23: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/23.jpg)
Previous work
Gollier (2012): Markov 2-regime switching model & exogenous risk of big drop in GDP growth much higher SCC.
Threat of doomsday scenario: Bommier et al. (2013).
Regime shifts with uncertain arrival of catastrophe: Partial equilibrium: Tsur & Zemel (1996), Karp & Tsur (2011),
Naevdal (2006), Polasky, de Zeeuw & Wagener (2011).
General equilibrium: Lemoine and Traeger (2014) use Ramsey model to understand effect of release of permafrost as instantaneous doubling of ECS and of learning and multiple catastrophes. Cai, Judd and Lontzeck (2015) similar and focus on shock to damage function and numerical challenge.
![Page 24: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/24.jpg)
Messages
Chance of catastrophe can lead to much higher SCCwithout an extremely low discount rate provided hazard rises sharply with temperature. The motive is to avert risk.
There is also a social benefit of capital (SBC) which gives a rationale for precautionary capital accumulation and being better prepared.
Calibrate a global IAM with Ramsey growth with both catastrophic and marginal climate damages.
Show role of convexity of the hazard function.
Show effect of more intergenerational inequality aversion and thus more risk aversion on SCC and SBC: i.e., on carbon tax and capital subsidy.
![Page 25: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/25.jpg)
Climate disaster and Ramsey growth
Concave time-separable utility function.
Concave and CRTS production function.
Factors of production: capital K, labour, fossil fuel and renewables. All factors are imperfect substitutes.
Fossil fuel E is abundant at cost d .
Supply of renewable R is infinitely elastic at cost c.
Extremely simple carbon cycle: nothing stays up permanently in the atmosphere, constant decay rate.
Hazard of catastrophic drop in TFP is H(P) and is modelled with Poisson process with H 0
![Page 26: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/26.jpg)
Climate disaster and Ramsey growth
0, ,
0
0
max E ( ( )) subject to
( ) ( ( ), ( ), ( )) ( ) ( ) ( ) ( ),
0, (0) ,
( ) ( ) ( ), 0, (0)
t
C E Re U C t dt
K t AF K t E t R t dE t cR t C t K t
t K K
P t E t P t t P
0
0
,
( ) , 0 , ( ) (1 ) , , 0 1,
Pr[ ] 1 exp ( ( )) , 0.
t
P
A t A t T A t A t T
T t H P s ds t
![Page 27: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/27.jpg)
Backward induction
For time being, damages only result from calamities.
Solve post-catastrophe problem as standard Ramsey problem to give post-calamity value function:
Solve before-catastrophe problem from the HJB:
( , ).AV K
, ,
'( ) ( , ),
( , ) Max ( )
( , ) ( , , ) ( , )( )
with optimality conditions
( , , ) , ( , ) / ( , ) 0,
(
( ,
) ( , ) ( , )
, ) .
B B
K
B
C E R
B BK P
B BE
R
A B
P KU C V K P
V K P U C
V K P AF K E R dE cR C K V K P E P
AF K E R d V K P V
H P V K V K
K P
AF K E
P
R c
![Page 28: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/28.jpg)
Precautionary saving and curbing risk of calamity
The Euler equation has a precautionary return or social benefit of capital (SBC):
The SCC is:
1/
( , , , ) with
( , )( ) 1 ( ) 1 0.
'( )
BK
A BK
A
C Y K d c A C
V K CH P H P
U C C
' ( ) ( ') ( ') ( ') '' ( )
( ') '
( ) ( )( ) exp
' ( ) ( ) ( ) exp / ' ( ) .
B As
B t
s
t
t
B A B
t
V VH P s r s s H P s ds
U C s
H P s ds
s st ds
H P s V s V s ds U C t
![Page 29: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/29.jpg)
Interpretation
‘Doomsday’ scenario has VA = 0, so the discount rate is increased frantic consumption and less investment. Mr. Bean!
But if world goes on after disaster, precaution is needed. Since consumption will fall after disaster, SBC > 0 and the discount rate is reduced. This calls for precautionary capital accumulation (if necessary internalized via a capital subsidy)
The SBC is bigger if the hazard and size of the disaster are bigger. And if intergenerational inequality aversion (CRIIA) is bigger.
![Page 30: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/30.jpg)
Illustrative calibration of hazard function
Use H(826) = 0.025 and H(1252) = 0.067
So doubling carbon stock (rise in temperature with 3 degrees) brings forward expected time of calamity from 40 to 15 years.
![Page 31: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/31.jpg)
After-disaster, naïve and before-disaster steady states
After disaster
Naive solution
Constant hazard h = 0.25
Linear hazard
Quadratic hazard
EIS = 0.8
Capital stock (T $) 276 392 472 530 486 436
Consumption (T $) 41.3 58.6 59.4 59.6 59.2 58.9
Fossil fuel use (GtC/year) 7.3 10.4 11.0 9.7 7.7 7.7
Renewable use (million GBTU/year) 8.2 11.7 12.4 12.7 12.2
11.8
Carbon stock (GtC) 1218 1731 1838 1623 1281 1279
Precautionary return (%/year) 0 0 0.76 1.24 0.990.57
SCC ($/tCO2) 0 0 0 22.4 56.9 51.0
![Page 32: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/32.jpg)
![Page 33: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/33.jpg)
![Page 34: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/34.jpg)
Precautionary capital can be negative if hazard function is very convex
Steady-state pre-disaster K is bigger than naive K iff:
This is always so if hazard constant and SCC zero. With convex enough hazard function effects of SCC can
outweigh effect of SBC, so inequality need not hold. With quartic SCC is very high and SBC very low. The high
carbon tax averts disaster so much that there is less need for precautionary capital accumulation. Put differently, precautionary capital is bad as it induces more fossil fuel use, more global warming and a relatively big increase in hazard of climate disaster. So avoid Green Paradox.
1 *
*.
B
B
d
d
![Page 35: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/35.jpg)
Role of intergenerational inequality aversion
Much debate is about discount rate but CRIIA = 1/is at least as important.
Higher or lower CRRA and CRIIA has two effects: Lower CRRA, so lower SBC, less precautionary saving and thus
less fossil fuel demand and emissions. Need lower carbon tax
Lower CRIIA so more prepared to sacrifice consumption and have a higher carbon tax.
With = 0.8 and linear hazard first effect dominates: lower SCB and lower SCC so less capital before disaster and less sacrificing of consumption.
![Page 36: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/36.jpg)
Gradual damages A(Temp) and the SCC
Before-disaster SCC has in general 3 components:
( ( ')
conventional Pigouvian social cost of carbon
( ( ')
'raising the stakes' effec
( ) ' ( ) ( ) ' ( )' ( )
( ) ( ) , , ( )' ( )
s
t
s
t
H P s ds
t
H P s dsAP
t
t A P s F s U C s e dsU C t
H P s V K s P s e dsU C t
t
( ( ')
'risk averting' effect
, 0 .' ( ) ( ) ( )' ( )
s
tB AH P s ds
tV V t TH P s s s e ds
U C t
![Page 37: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/37.jpg)
Catastrophic and marginal climate damages
Naïvesolution
20% shock in TFP 10% shock in TFP
after shock linear quadratic
after shock linear quadratic
Capital stock (T $)378 271 492 465 323 431 421
Consumption (T $)57.1 40.8 58.3 58.2 48.7 57.8 57.8
Carbon stock (GtC)1502 1107 1287 1161 1303 1425 1320
Temperature (degrees
Celsius)4.00 2.68 3.33 2.88 3.38 3.77 3.44
Precautionary return (%/year)
0 0 1.10 0.90 0 0.57 0.49
SCC ($/GtCO2) 15.4 11.0 54.8 71.2 13.2 29.8 41.5
marginal 15.4 11.0 4.3 5.7 13.2 3.8 4.7
risk averting 0 0 35.0 51.9 0 12.4 24.2
raising stakes 0 0 15.4 13.7 0 13.7 12.5
![Page 38: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/38.jpg)
Effect of climate sensitivity on damages
![Page 39: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/39.jpg)
Carbon and capital catastrophes
Naïve solution
CS jumps from 3 to 4
20% drop in P
20% drop in K
Aftercalamity
Before calamity
Capital stock (T $) 379 372382
381 433
Consumption (T $) 57.1 56.3 57.3 57.1 57.6
Carbon stock (GtC) 1503 13741400
1490 1534
Temperature (degrees Celsius) 4.00 4.823.69
3.96 4.09
Precautionary return (%/year) 0 0
0.05
0.03 0.57
SCC ($/GtCO2) 15.5 26.726.5
16.9 18.5
Marginal 15.5 26.74.1
3.8 3.8
risk averting 0 02.2
1.4 2.5
raising stakes 0 020.2
11.7 12.2
![Page 40: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/40.jpg)
Conclusions
Small risks of climate disasters may lead to a much bigger SCC even with usual discount rates. Rationale is to avoid risk.
Also need for precautionary capital accumulation.
Need estimates of current risks of catastrophe and how these increase with temperature.
Recoverable shocks such as P or K calamities are less problematic.
Catastrophic changes in system dynamics unleashing positive feedback may be much more dangerous than TFP calamities.
![Page 41: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/41.jpg)
Extension: North-South perspective
Carbon taxes and capital stocks
Non-coop bias in carbon tax, not in precautionary return on capital
Regime shifts
![Page 42: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/42.jpg)
Other extensions
Adaptation capital (sea walls, storm surge barriers) increases with global warming: trade-off with productive capital.
Positive feedback in the carbon cycle changes carbon cycle dynamocs(e.g., Greenland or West Antarctica ice sheet collapse).
Multiple tipping points with different hazard functions and lags (Cai, Judd, Lontzek). ‘Strange’ cost-benefit analysis (Pindyck).
Learning about probabilities of tipping points, but also about whether they exist all (cf. ‘email-problem’). How to respond to a tipping point which may never materialize?
Second-best issues: Green Paradox can lead to ‘runaway’ global warming if the system is tipped due to more rapid depletion of oil, gas and coal in face of a future tightening of climate policy (Ralph Winter, JEEM, 2014).
![Page 43: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/43.jpg)
Pure rate of time preference, 0.014
Elasticity of intertemporal substitution, 0.5 (and 0.8)
Share of capital in value added, 0.3
Share of fossil fuel (oil, gas, coal) in value added, 0.0626
Share of fossil fuel in total energy, 0.9614
Share of energy in value added, 0.0651
Share of labour in value added, 1 0.6349
Depreciation rate of manmade capital, 0.05
Initial level of GDP, Y0 63 trillion US $
Initial capital stock, K0 200 trillion US $
Initial fossil fuel use, E0 468.3 million G BTU = 8.3 GtC
Initial renewable use, R0 9.4 million G BTU
Total factor productivity, A 11.9762
Cost of fossil fuel, d 9 US $/million BTU = 504 US $/tC
Cost of renewable, c 18 US $/million BTU
Initial stock of carbon, P0 826 GtC = 388 ppm by vol. CO2
Pre-industrial carbon stock 596.4 GtC = 280 ppm by vol. CO2
Fraction of carbon that stays up in atmosphere, 0.5
Eventual climate shock, 0.2 (and 0.1)
Equilibrium climate sensitivity 3 (and 4)
![Page 44: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/44.jpg)
Royal Economic Society
![Page 45: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/45.jpg)
Why finance ministers favor carbon taxes, even ifthey do not take climate change into account
Ottmar Edenhofer, Max Franks, Kai Lessmann
01.04.2015
![Page 46: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/46.jpg)
MOTIVATION
MODEL SETUP
RESULTS
,Ottmar Edenhofer, Max Franks, Kai Lessmann */18
![Page 47: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/47.jpg)
The climate problem at a glance
Resources and reserves to remainunderground:
• 80 % coal
• 40 % gas
• 40 % oil
Source: Bauer et al. (2014), Jakob, Hilaire (2015),
Ottmar Edenhofer, Max Franks, Kai Lessmann 1/18
![Page 48: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/48.jpg)
The Globalisation Paradox: A Trilemma
,Ottmar Edenhofer, Max Franks, Kai Lessmann 2/18
![Page 49: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/49.jpg)
The Globalisation Paradox: A Trilemma
,Ottmar Edenhofer, Max Franks, Kai Lessmann 2/18
![Page 50: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/50.jpg)
The Globalisation Paradox: A Trilemma
Source: Benassy-Quere et al. (2010)
,Ottmar Edenhofer, Max Franks, Kai Lessmann 2/18
![Page 51: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/51.jpg)
Resource rents as solution
Source: Jakob et al. (2015),
Ottmar Edenhofer, Max Franks, Kai Lessmann 3/18
![Page 52: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/52.jpg)
Research questions
• Most economists agree on carbon pricing to address theclimate externalty, many prefer taxes.
• What is the role of a carbon tax under the assumption that noclimate externality exists?
• Can carbon taxes finance infrastructure more efficiently thancapital taxes when input factors are mobile?
• What are the supply side dynamics when resource importingcountries tax carbon?
,Ottmar Edenhofer, Max Franks, Kai Lessmann 4/18
![Page 53: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/53.jpg)
Research questions
• Most economists agree on carbon pricing to address theclimate externalty, many prefer taxes.
• What is the role of a carbon tax under the assumption that noclimate externality exists?
• Can carbon taxes finance infrastructure more efficiently thancapital taxes when input factors are mobile?
• What are the supply side dynamics when resource importingcountries tax carbon?
,Ottmar Edenhofer, Max Franks, Kai Lessmann 4/18
![Page 54: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/54.jpg)
Research questions
• Most economists agree on carbon pricing to address theclimate externalty, many prefer taxes.
• What is the role of a carbon tax under the assumption that noclimate externality exists?
• Can carbon taxes finance infrastructure more efficiently thancapital taxes when input factors are mobile?
• What are the supply side dynamics when resource importingcountries tax carbon?
,Ottmar Edenhofer, Max Franks, Kai Lessmann 4/18
![Page 55: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/55.jpg)
Research questions
• Most economists agree on carbon pricing to address theclimate externalty, many prefer taxes.
• What is the role of a carbon tax under the assumption that noclimate externality exists?
• Can carbon taxes finance infrastructure more efficiently thancapital taxes when input factors are mobile?
• What are the supply side dynamics when resource importingcountries tax carbon?
,Ottmar Edenhofer, Max Franks, Kai Lessmann 4/18
![Page 56: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/56.jpg)
Results
1. In Nash equilibrium, carbon tax more efficient than capital tax.
Both taxes subject to race to the bottom.
Carbon tax captures part of the Hotelling rent.
2. No green paradox:
Demand side fully determines extraction.
Carbon taxes postpone extraction,
and reduce cumulative emissions.
3. Both results are robust under different strategic settings:(Non-)cooperative importers, (non-)strategic exporter.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 5/18
![Page 57: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/57.jpg)
Results
1. In Nash equilibrium, carbon tax more efficient than capital tax.
Both taxes subject to race to the bottom.
Carbon tax captures part of the Hotelling rent.
2. No green paradox:
Demand side fully determines extraction.
Carbon taxes postpone extraction,
and reduce cumulative emissions.
3. Both results are robust under different strategic settings:(Non-)cooperative importers, (non-)strategic exporter.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 5/18
![Page 58: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/58.jpg)
Results
1. In Nash equilibrium, carbon tax more efficient than capital tax.
Both taxes subject to race to the bottom.
Carbon tax captures part of the Hotelling rent.
2. No green paradox:
Demand side fully determines extraction.
Carbon taxes postpone extraction,
and reduce cumulative emissions.
3. Both results are robust under different strategic settings:(Non-)cooperative importers, (non-)strategic exporter.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 5/18
![Page 59: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/59.jpg)
Results
1. In Nash equilibrium, carbon tax more efficient than capital tax.
Both taxes subject to race to the bottom.
Carbon tax captures part of the Hotelling rent.
2. No green paradox:
Demand side fully determines extraction.
Carbon taxes postpone extraction,
and reduce cumulative emissions.
3. Both results are robust under different strategic settings:(Non-)cooperative importers, (non-)strategic exporter.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 5/18
![Page 60: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/60.jpg)
Results
1. In Nash equilibrium, carbon tax more efficient than capital tax.
Both taxes subject to race to the bottom.
Carbon tax captures part of the Hotelling rent.
2. No green paradox:
Demand side fully determines extraction.
Carbon taxes postpone extraction,
and reduce cumulative emissions.
3. Both results are robust under different strategic settings:(Non-)cooperative importers, (non-)strategic exporter.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 5/18
![Page 61: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/61.jpg)
Results
1. In Nash equilibrium, carbon tax more efficient than capital tax.
Both taxes subject to race to the bottom.
Carbon tax captures part of the Hotelling rent.
2. No green paradox:
Demand side fully determines extraction.
Carbon taxes postpone extraction,
and reduce cumulative emissions.
3. Both results are robust under different strategic settings:(Non-)cooperative importers, (non-)strategic exporter.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 5/18
![Page 62: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/62.jpg)
Results
1. In Nash equilibrium, carbon tax more efficient than capital tax.
Both taxes subject to race to the bottom.
Carbon tax captures part of the Hotelling rent.
2. No green paradox:
Demand side fully determines extraction.
Carbon taxes postpone extraction,
and reduce cumulative emissions.
3. Both results are robust under different strategic settings:(Non-)cooperative importers, (non-)strategic exporter.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 5/18
![Page 63: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/63.jpg)
Results
1. In Nash equilibrium, carbon tax more efficient than capital tax.
Both taxes subject to race to the bottom.
Carbon tax captures part of the Hotelling rent.
2. No green paradox:
Demand side fully determines extraction.
Carbon taxes postpone extraction,
and reduce cumulative emissions.
3. Both results are robust under different strategic settings:(Non-)cooperative importers, (non-)strategic exporter.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 5/18
![Page 64: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/64.jpg)
MOTIVATION
MODEL SETUP
RESULTS
,Ottmar Edenhofer, Max Franks, Kai Lessmann */18
![Page 65: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/65.jpg)
,Ottmar Edenhofer, Max Franks, Kai Lessmann 6/18
![Page 66: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/66.jpg)
,Ottmar Edenhofer, Max Franks, Kai Lessmann 6/18
![Page 67: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/67.jpg)
Government:
maxτζ
W =T∑
t=0
LtU(C/L)
(1 + ρ)t, ζ ∈ {K ,R,C , L}
IG + Tax transfer = rτKK + τRR + τCC + wτLL
Gt+1 = Gt(1− δ) + IGt
Firm:
maxK ,R,L
ΠF = F (K ,G ,R, L)− r(1 + τK )K − (p + τR )R − w(1 + τL)L
=⇒ FK = r(1 + τK ), FR = p + τR , FL = w(1 + τL)
Household:
maxC/L
W =T∑
t=0
U(Ct/Lt)
(1 + ρ)t,
Ct(1 + τC ,t) = wtLt + rtKt − It + ΠFt + Tax transfer
t
,Ottmar Edenhofer, Max Franks, Kai Lessmann 7/18
![Page 68: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/68.jpg)
Government:
maxτζ
W =T∑
t=0
LtU(C/L)
(1 + ρ)t, ζ ∈ {K ,R,C , L}
IG + Tax transfer = rτKK + τRR + τCC + wτLL
Gt+1 = Gt(1− δ) + IGt
Firm:
maxK ,R,L
ΠF = F (K ,G ,R, L)− r(1 + τK )K − (p + τR )R − w(1 + τL)L
=⇒ FK = r(1 + τK ), FR = p + τR , FL = w(1 + τL)
Household:
maxC/L
W =T∑
t=0
U(Ct/Lt)
(1 + ρ)t,
Ct(1 + τC ,t) = wtLt + rtKt − It + ΠFt + Tax transfer
t
,Ottmar Edenhofer, Max Franks, Kai Lessmann 7/18
![Page 69: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/69.jpg)
Government:
maxτζ
W =T∑
t=0
LtU(C/L)
(1 + ρ)t, ζ ∈ {K ,R,C , L}
IG + Tax transfer = rτKK + τRR + τCC + wτLL
Gt+1 = Gt(1− δ) + IGt
Firm:
maxK ,R,L
ΠF = F (K ,G ,R, L)− r(1 + τK )K − (p + τR )R − w(1 + τL)L
=⇒ FK = r(1 + τK ), FR = p + τR , FL = w(1 + τL)
Household:
maxC/L
W =T∑
t=0
U(Ct/Lt)
(1 + ρ)t,
Ct(1 + τC ,t) = wtLt + rtKt − It + ΠFt + Tax transfer
t
,Ottmar Edenhofer, Max Franks, Kai Lessmann 7/18
![Page 70: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/70.jpg)
Government:
maxτζ
W =T∑
t=0
LtU(C/L)
(1 + ρ)t, ζ ∈ {K ,R,C , L}
IG + Tax transfer = rτKK + τRR + τCC + wτLL
Gt+1 = Gt(1− δ) + IGt
Firm:
maxK ,R,L
ΠF = F (K ,G ,R, L)− r(1 + τK )K − (p + τR )R − w(1 + τL)L
=⇒ FK = r(1 + τK ), FR = p + τR , FL = w(1 + τL)
Household:
maxC/L
W =T∑
t=0
U(Ct/Lt)
(1 + ρ)t,
Ct(1 + τC ,t) = wtLt + rtKt − It + ΠFt + Tax transfer
t
,Ottmar Edenhofer, Max Franks, Kai Lessmann 7/18
![Page 71: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/71.jpg)
,Ottmar Edenhofer, Max Franks, Kai Lessmann 8/18
![Page 72: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/72.jpg)
,Ottmar Edenhofer, Max Franks, Kai Lessmann 8/18
![Page 73: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/73.jpg)
,Ottmar Edenhofer, Max Franks, Kai Lessmann 8/18
![Page 74: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/74.jpg)
Resource exporter: Resource market:
Capital market:
maxRt
T∑t=0
ptRt − ct∏ts=0(1 + rs )
R supply =∑
j
Rdemandj
p = pj ∀j
∑j
K supplyj =
∑j
K demandj
r = rj ∀j
,Ottmar Edenhofer, Max Franks, Kai Lessmann 9/18
![Page 75: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/75.jpg)
Resource exporter: Resource market: Capital market:
maxRt
T∑t=0
ptRt − ct∏ts=0(1 + rs )
R supply =∑
j
Rdemandj
p = pj ∀j
∑j
K supplyj =
∑j
K demandj
r = rj ∀j,
Ottmar Edenhofer, Max Franks, Kai Lessmann 9/18
![Page 76: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/76.jpg)
Nash equilibrium, two sub-games,
solved for
non-cooperative behavior
maxτ i
K,τ i
R
Wi , given τ jK , τ
jR , i 6= j
or cooperative behavior of governments
max{τ i
K,τ i
R}i=1,2
W1 + W2
,Ottmar Edenhofer, Max Franks, Kai Lessmann 10/18
![Page 77: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/77.jpg)
Nash equilibrium, two sub-games,
solved for
non-cooperative behavior
maxτ i
K,τ i
R
Wi , given τ jK , τ
jR , i 6= j
or cooperative behavior of governments
max{τ i
K,τ i
R}i=1,2
W1 + W2
,Ottmar Edenhofer, Max Franks, Kai Lessmann 10/18
![Page 78: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/78.jpg)
Nash equilibrium, two sub-games,
solved for
non-cooperative behavior
maxτ i
K,τ i
R
Wi , given τ jK , τ
jR , i 6= j
or cooperative behavior of governments
max{τ i
K,τ i
R}i=1,2
W1 + W2
,Ottmar Edenhofer, Max Franks, Kai Lessmann 10/18
![Page 79: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/79.jpg)
Nash equilibrium, two sub-games,
solved for
non-cooperative behavior
maxτ i
K,τ i
R
Wi , given τ jK , τ
jR , i 6= j
or cooperative behavior of governments
max{τ i
K,τ i
R}i=1,2
W1 + W2
,Ottmar Edenhofer, Max Franks, Kai Lessmann 10/18
![Page 80: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/80.jpg)
Nash equilibrium, two sub-games, solved for
non-cooperative behavior
maxτ i
K,τ i
R
Wi , given τ jK , τ
jR , i 6= j
or
cooperative behavior of governments
max{τ i
K,τ i
R}i=1,2
W1 + W2
,Ottmar Edenhofer, Max Franks, Kai Lessmann 10/18
![Page 81: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/81.jpg)
Nash equilibrium, two sub-games, solved for
non-cooperative behavior
maxτ i
K,τ i
R
Wi , given τ jK , τ
jR , i 6= j
or cooperative behavior of governments
max{τ i
K,τ i
R}i=1,2
W1 + W2
,Ottmar Edenhofer, Max Franks, Kai Lessmann 10/18
![Page 82: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/82.jpg)
MOTIVATION
MODEL SETUP
RESULTS
• Numerical solution due to high complexity (dual game structure,intertemporal optimization, two international markets, etc.)
• Calibration: Two symmetric countries to avoid that results are driven byasymmetries.
• Flexibility of modelling framework also allows for calibration to setupswith specific regions (e.g. USA, EU, Australia, and OPEC).
,Ottmar Edenhofer, Max Franks, Kai Lessmann */18
![Page 83: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/83.jpg)
MOTIVATION
MODEL SETUP
RESULTS
• Numerical solution due to high complexity (dual game structure,intertemporal optimization, two international markets, etc.)
• Calibration: Two symmetric countries to avoid that results are driven byasymmetries.
• Flexibility of modelling framework also allows for calibration to setupswith specific regions (e.g. USA, EU, Australia, and OPEC).
,Ottmar Edenhofer, Max Franks, Kai Lessmann */18
![Page 84: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/84.jpg)
Single instrument portfolio
,Ottmar Edenhofer, Max Franks, Kai Lessmann 11/18
![Page 85: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/85.jpg)
Single instrument portfolio
,Ottmar Edenhofer, Max Franks, Kai Lessmann 11/18
![Page 86: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/86.jpg)
Mixed portfolio
,Ottmar Edenhofer, Max Franks, Kai Lessmann 12/18
![Page 87: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/87.jpg)
Timing and volume effects
,Ottmar Edenhofer, Max Franks, Kai Lessmann 13/18
![Page 88: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/88.jpg)
Timing and volume effects
,Ottmar Edenhofer, Max Franks, Kai Lessmann 14/18
![Page 89: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/89.jpg)
No green paradox: Demand for infrastructure fullydetermines supply side dynamics
The optimal financing of infrastructure with a carbon tax from an importing
government’s perspective impliesτR,t+1−τR,t
τR,t< rt − δ. Thus, extraction is
postponed (see, e.g., Edenhofer and Kalkuhl, 2011).
,Ottmar Edenhofer, Max Franks, Kai Lessmann 15/18
![Page 90: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/90.jpg)
Assumptions about strategic behavior of exporter
• Portfolios, which include the carbon tax τR yield higher NPVof consumption in importing countries.
• This finding is independent of whether the exporter mayinteract strategically or not.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 16/18
![Page 91: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/91.jpg)
Summary of results
1. Carbon tax more efficient than capital tax.
asymmetry between capital and carbon as tax base,
only the resource stock gives rise to rent.
2. Carbon tax delays extraction, reduces cumulative emissions.Timing of infrastructure demand fully determines supply sidedynamics.
3. Results are robust under different sorts of strategic behavior:Cooperating importers, strategic exporter.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 17/18
![Page 92: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/92.jpg)
Summary of results
1. Carbon tax more efficient than capital tax.
asymmetry between capital and carbon as tax base,
only the resource stock gives rise to rent.
2. Carbon tax delays extraction, reduces cumulative emissions.Timing of infrastructure demand fully determines supply sidedynamics.
3. Results are robust under different sorts of strategic behavior:Cooperating importers, strategic exporter.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 17/18
![Page 93: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/93.jpg)
Summary of results
1. Carbon tax more efficient than capital tax.
asymmetry between capital and carbon as tax base,
only the resource stock gives rise to rent.
2. Carbon tax delays extraction, reduces cumulative emissions.Timing of infrastructure demand fully determines supply sidedynamics.
3. Results are robust under different sorts of strategic behavior:Cooperating importers, strategic exporter.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 17/18
![Page 94: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/94.jpg)
Summary of results
1. Carbon tax more efficient than capital tax.
asymmetry between capital and carbon as tax base,
only the resource stock gives rise to rent.
2. Carbon tax delays extraction, reduces cumulative emissions.Timing of infrastructure demand fully determines supply sidedynamics.
3. Results are robust under different sorts of strategic behavior:Cooperating importers, strategic exporter.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 17/18
![Page 95: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/95.jpg)
Summary of results
1. Carbon tax more efficient than capital tax.
asymmetry between capital and carbon as tax base,
only the resource stock gives rise to rent.
2. Carbon tax delays extraction, reduces cumulative emissions.Timing of infrastructure demand fully determines supply sidedynamics.
3. Results are robust under different sorts of strategic behavior:Cooperating importers, strategic exporter.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 17/18
![Page 96: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/96.jpg)
Policy conclusions
• Carbon pricing can help to mitigate the race to the bottom.
• The supply side dynamics of carbon pricing matter, but poseno environmental problem.
• Rethink role of environmental policy:Not only environmental ministers should favor carbon pricing,but also finance ministers.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 18/18
![Page 97: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/97.jpg)
Policy conclusions
• Carbon pricing can help to mitigate the race to the bottom.
• The supply side dynamics of carbon pricing matter, but poseno environmental problem.
• Rethink role of environmental policy:Not only environmental ministers should favor carbon pricing,but also finance ministers.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 18/18
![Page 98: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/98.jpg)
Policy conclusions
• Carbon pricing can help to mitigate the race to the bottom.
• The supply side dynamics of carbon pricing matter, but poseno environmental problem.
• Rethink role of environmental policy:Not only environmental ministers should favor carbon pricing,but also finance ministers.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 18/18
![Page 99: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/99.jpg)
Backup slides
,Ottmar Edenhofer, Max Franks, Kai Lessmann 19/18
![Page 100: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/100.jpg)
There is far more carbon in the ground than emittedin any basline scenario
Source: Edenhofer, Hilaire, Bauer
,Ottmar Edenhofer, Max Franks, Kai Lessmann 20/18
![Page 101: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/101.jpg)
The scarcity rent of CO2 emissions
• Fossil fuel rents decrease with theambition of climate policy.
• If the optimal CO2 price isimplemented globally, this loss isovercompensated by the carbonrent.
• The revenues of the carbon tax orauctioning of emission permits canbe used to finance tax reductions,infrastructure investments, ordebt reduction.
Source: Bauer et al. (2013),
Ottmar Edenhofer, Max Franks, Kai Lessmann 21/18
![Page 102: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/102.jpg)
The scarcity rent of CO2 emissions
• Fossil fuel rents decrease with theambition of climate policy.
• If the optimal CO2 price isimplemented globally, this loss isovercompensated by the carbonrent.
• The revenues of the carbon tax orauctioning of emission permits canbe used to finance tax reductions,infrastructure investments, ordebt reduction.
Source: Bauer et al. (2013),
Ottmar Edenhofer, Max Franks, Kai Lessmann 21/18
![Page 103: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/103.jpg)
The scarcity rent of CO2 emissions
• Fossil fuel rents decrease with theambition of climate policy.
• If the optimal CO2 price isimplemented globally, this loss isovercompensated by the carbonrent.
• The revenues of the carbon tax orauctioning of emission permits canbe used to finance tax reductions,infrastructure investments, ordebt reduction.
Source: Bauer et al. (2013),
Ottmar Edenhofer, Max Franks, Kai Lessmann 21/18
![Page 104: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/104.jpg)
Volume effects under behavioral assumptions
,Ottmar Edenhofer, Max Franks, Kai Lessmann 22/18
![Page 105: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/105.jpg)
The resource rent
,Ottmar Edenhofer, Max Franks, Kai Lessmann 23/18
![Page 106: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/106.jpg)
Welfare evaluation
,Ottmar Edenhofer, Max Franks, Kai Lessmann 24/18
![Page 107: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/107.jpg)
Welfare evaluation
,Ottmar Edenhofer, Max Franks, Kai Lessmann 25/18
![Page 108: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/108.jpg)
No problem with time inconsistency
,Ottmar Edenhofer, Max Franks, Kai Lessmann 26/18
![Page 109: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/109.jpg)
No problem with time inconsistency
,Ottmar Edenhofer, Max Franks, Kai Lessmann 26/18
![Page 110: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/110.jpg)
If taxing carbon is so good, why do we not see moreof it in reality?
1. In the past: ignorance on the part of policy-makers. Today not trueanymore in many places.
2. Practical problems, caused e.g. by spacially differentiated taxes, complextrading rules for non-uniformly mixes pollutants, etc...
3. Institutional problems:
Cost-effectiveness ranked lower in regulators list of multiple policyobjectives.Ethical implications: Tax debases notion of environmental quality(Kelman, 1981); emission permits as ’right to pollute’.
4. Resistance from those with vested interest in preservation of existingsystem.
’... all of the main parties involved [have] reasons to favor[command-and-control policies]: firms, environmental advocacy groups,organized labor legislators and bureaucrats’ (Stavins, 1998, p.72).
Source: Hanley et al. (2007)
,Ottmar Edenhofer, Max Franks, Kai Lessmann 27/18
![Page 111: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/111.jpg)
Why might public spending be too low?How can additional revenues from climate policyenhance welfare?
1. Weak institutions (non-OECD).
2. Existing allocation of public funds inefficient. New revenuesfrom climate policy free to allocate.
3. Myopia towards projects with long term benefits. Climatepolicy might supply both funds and political momentum toimplement such projects.
4. If in contrast projects with long term benefits were realized,there might be a lack of fiscal tools to finance high up-frontcosts, e.g. political debt-limit.
Source: Siegmeier et al. (2015)
,Ottmar Edenhofer, Max Franks, Kai Lessmann 28/18
![Page 112: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/112.jpg)
Model setup - solution algorithm
• Households, firms and the resource owner are Stackelbergfollowers of governments.
• Governments engage in Nash game using policy instruments:
• Repeat...for each player j
I unfix avaliable policy instrument for jI maximize objective for jI fix newly found policies
• ...until policy instruments converge.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 29/18
![Page 113: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/113.jpg)
Model setup - solution algorithm
• Households, firms and the resource owner are Stackelbergfollowers of governments.
• Governments engage in Nash game using policy instruments:
• Repeat...for each player j
I unfix avaliable policy instrument for jI maximize objective for jI fix newly found policies
• ...until policy instruments converge.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 29/18
![Page 114: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/114.jpg)
Model setup - solution algorithm
• Households, firms and the resource owner are Stackelbergfollowers of governments.
• Governments engage in Nash game using policy instruments:
• Repeat...for each player j
I unfix avaliable policy instrument for jI maximize objective for jI fix newly found policies
• ...until policy instruments converge.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 29/18
![Page 115: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/115.jpg)
Model setup - solution algorithm
• Households, firms and the resource owner are Stackelbergfollowers of governments.
• Governments engage in Nash game using policy instruments:
• Repeat...for each player j
I unfix avaliable policy instrument for j
I maximize objective for jI fix newly found policies
• ...until policy instruments converge.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 29/18
![Page 116: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/116.jpg)
Model setup - solution algorithm
• Households, firms and the resource owner are Stackelbergfollowers of governments.
• Governments engage in Nash game using policy instruments:
• Repeat...for each player j
I unfix avaliable policy instrument for jI maximize objective for j
I fix newly found policies
• ...until policy instruments converge.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 29/18
![Page 117: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/117.jpg)
Model setup - solution algorithm
• Households, firms and the resource owner are Stackelbergfollowers of governments.
• Governments engage in Nash game using policy instruments:
• Repeat...for each player j
I unfix avaliable policy instrument for jI maximize objective for jI fix newly found policies
• ...until policy instruments converge.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 29/18
![Page 118: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/118.jpg)
Model setup - solution algorithm
• Households, firms and the resource owner are Stackelbergfollowers of governments.
• Governments engage in Nash game using policy instruments:
• Repeat...for each player j
I unfix avaliable policy instrument for jI maximize objective for jI fix newly found policies
• ...until policy instruments converge.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 29/18
![Page 119: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/119.jpg)
Numerical Model: Details
CES production function
,Ottmar Edenhofer, Max Franks, Kai Lessmann 30/18
![Page 120: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/120.jpg)
CES production function
F (K ,G ,R, L) = (α1Rs1 + (1 − α1)Z s1)
1s1
Z (K ,G , L) = (α2Xs2 + (1 − α2)Ls2)
1s2
X (K ,G ) = (α3Ks3 + (1 − α3)G s3)
1s3
CiES social welfare function
W =∑
t
Lt(Ct/Lt)1−η
1 − η
1
(1 + ρ)t
Parameter values
σ1 α1 σ2 α2 σ3 α3 η ρ
0.5 0.1 0.7 0.42 1.1 0.65 1.1 0.03, si = σi−1
σi
Source: Empirical literature, details in appendix
,Ottmar Edenhofer, Max Franks, Kai Lessmann 31/18
![Page 121: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/121.jpg)
Intertemporal optimization: Household
maxC/L
W =T∑
t=0
U(C/L)
(1 + ρ)t,
s.t. C(1 + τC ) = wL + rK s + ΠF + Tax transfer − I
It = K st+1 − (1− δ)K s
t
taking ΠFt and Tax trans
t as given.
Use discrete Maximum Principle with Hamiltonian:
HHHt = U(Ct/Lt) + λt
[(1 + (rt − δ))K s
t + wtLt + ...
...+ ΠFt + Tax trans − Ct(1 + τC ,t)
]FOCs and TC: Lη−1
t /Cηt = λt(1 + τC ,t),
λt−1(1 + ρ) = λt (1 + rt(1 + τC ,t)− δ) ,
0 = (IT − (1− δ)K sT )λT .
,Ottmar Edenhofer, Max Franks, Kai Lessmann 32/18
![Page 122: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/122.jpg)
Intertemporal optimization: Resource exporter
maxRt
T∑t=0
(pt − ct − τRO,t)Rt + Ψt∏ts=0(1 + rs )
, ct(St) = rt
(1 +
χ2
χ1((S0 − St)/S0)χ3
)subject to∑
t
Rt ≤ S0
where Rt = St − St+1, S0 is given, and Ψt = τRO,tRt is taken as given.
Hamiltonian:
HROt = (pt − ct − τRO,t)Rt + λR (St − Rt) + Ψt ,
FOCs and TC:
λRt = pt(1− τRO,t)− ct ,
λRt = λR
t−1(1 + rt − δ)− rtRtχ2χ3
χ1S0
(S0 − St
S0
)χ3−1
,
λRT−1ST = 0.
,Ottmar Edenhofer, Max Franks, Kai Lessmann 33/18
![Page 123: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/123.jpg)
Intertemporal optimization: Government
maxτ
W =T∑
t=0
LtU(Ct/Lt)
(1 + ρ)t
subject to
IG + Tax transfer = rτKK + τRR + τCC + wτLL
Gt+1 = Gt + IGt − δGt
and
• the international market clearing conditions,
• the maximization problems of households, firms, and theresource exporter,
• their respective FOCs and TCs
,Ottmar Edenhofer, Max Franks, Kai Lessmann 34/18
![Page 124: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/124.jpg)
Some parameter values
Description symbol value range sources
Intertemporal elasticity of substitution η 1.1Pure rate of time preference ρ 0.03Annual depreciation rate of capital δ 0.025Share parameter of fossil resource α1 0.11 Edenhofer et. al. (2005)Elasticity of substitution btw. Z and R σ1 0.5 0.25 – 0.92 Hogan and Manne (1979)
Kemfert and Welsch (2000)Burniaux et. al. (1992)Markandya et. al. (2007)
Share parameter of private capital α2 0.7Elasticity of substitution btw. K and G σ2 1.1 0.5 – 4 Baier and Glomm (2001)
Coenen et. al. (2012)Otto and Voss (1998)
Total factor productivity A 0.8Initial world capital [tril. US$] K0 165Initial world infrastructure [tril. US$] G0 50Initial world resource stock [GtC] S0 4000Fixed VAT rate [%] τC 16 OECD (2014)Fixed labor tax rate [%] τL 16 World Bank (2014)Time horizon [years] T 75
,Ottmar Edenhofer, Max Franks, Kai Lessmann 35/18
![Page 125: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/125.jpg)
References (general)Benassy-Quere, Agnes , Economic Policy: Theory and Practice, 2010, Oxford University Press
Edenhofer, Ottmar and Kalkuhl, Matthias, When do increasing carbon taxes accelerate global warming? A note onthe green paradox, 2011, Energy Policy
Eichner, Thomas and Runkel, Marco, Interjurisdictional Spillovers, Decentralized Policymaking, and the Elasticityof Capital Supply, 2012, American Economic Review
Hanley, N., Shogren, J. F., White, B., Environmental Economics in Theory and Practive, 2nd edition, 2007,Palgrave Macmillan
Kelman, S. Economists and the environmental policy muddle, 1981, Public interest
van der Meijden, Gerard et. al., International Capital markets, Oil Producers and the Green Paradox, 2014,OxCarre Research Paper 130
OECD Tax data base, 2014, accessed: 2014-08-27, www.oecd.org/tax/tax-policy/tax-database.htm#vat
Siegmeier, J., Mattauch, L., Franks, M., Klenert, D., Schultes, A., A public finance perspective on climate policy:Six interactions that may enhance welfare, 2015, mimeo
Sinn, Hans-Werner, Public policies against global warming: a supply side approach, 2008, International Tax andPublic Finance
Stavins, R., What can we learn from the grand policy experiment? Lessons from SO2 allowance trading, 1998,Journal of Economic Perspectives
Tahvonen, Olli, International CO2 Taxation and the Dynamics of Fossil Fuel Markets, 1995, International Tax andPublic Finance
Withagen, Cees and Halsema, Alex, Tax competition leading to strict environmental policy, 2013, International Taxand Public Finance
World Bank, World Development Indicators, Labor tax and contributions, Accessed: 2014-08-27,data.worldbank.org/indicator/IC.TAX.LABR.CP.ZS
,Ottmar Edenhofer, Max Franks, Kai Lessmann 36/18
![Page 126: Royal Economic Society](https://reader031.vdocuments.us/reader031/viewer/2022012915/61c4b1ef8527a3561a2096a0/html5/thumbnails/126.jpg)
Royal Economic Society