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I Introduction

There is a growing body of literature on economic aspects of global warming Whereas the

research in greenhouse gas (GHG) abatement rosts has provided many studies, the question of

greenhouse damage valuation has gained little attention yet

Ongoing the first section of this paper provides abrief overview of the maiD results relating to

the costs of reducing CO2 emission

Afterwards the maiD interest is focused to the benefits of emission abatement, defined as the

benefits from avoided damages

t !;' A synthesis of both costs and benefits is to find an economical\y efficient war für the optimum" amongst emission abatement and not avoided damages otherwise Guided by the mainly

applied Cost-Benefit-Analysis (CBA), there are several examinations to evaluate the social

costs of greenhouse gas emissions

Finally same criticism related to the hefe presented and often applied Cost-Benefit-Approach

as weil as an outlook will follow

2 Tbe Costs of Reducing COz Emissions

In recent years there have been numerous studies deaIing with the reduction of CO2 emissions

(see a synopsis in IPCC 1996, MICHAELIS 1997) To identify the rosts related with any

reductions of CO2 emissions, economists principally apply two different approaches, known as

"top-down"-models and "bottom-up"-models

" T op-down"-models analyze aggregated behaviours based on economic indices of prices and

elasticities Furthermore, a "top-down"-model tries to capture the overall economic impact of a

climate policy, für example the introduction of quantitative restrictions or carbon taxes

"Bottom-up"-models on the other hand are based on a detailed analysis of technical potential.

From an economic point of view, "bottom-up"-models have the disadvantage, that they only

add partial assessed potentials of mitigation, whereas potentials of mitigation in anational

economy often depend on each other (for more details see NoRDHAUS 1991 b or JOHANSSON &

SWlSIIER 1994)

Following a look at the results of the so-called "top-down"-models will be provided, because

these models take into account economic considerations like changes of prices, demands and

reaction ofadaption over time (for example see MANNE & RlCIIELS 1990)

r .\r--~:

.? i

...1 Introduction

There is a growing body of literature on economic aspects of global warming Whereas the

research in greenhouse gas (GHG) abatement costs has provided many studies, the question of

greenhouse damage valuation has gained little attention yet

Ongoing the first section of this paper provides abrief overview of the main results relating to

the costs of reducing CO2 emission.

Afterwards the main interest is focused to the benefits of emission abatement, defined as the

benefits from avoided damages

A synthesis of both costs and benefits is to find an economicaIly efficient war for the optimum

amongst emission abatement and not avoided damages otherwise Guided by the mainly

applied Cost-Benefit-Analysis (CBA), there are several examinations to evaluate the social

costs of greenhouse gas emissions

FinaIly same criticism related to the hefe presented and often applied Cost-Benefit-Approach

as weil as an outlook will follow

2 The Costs of Reducing COz Emissions

In recent years there have been numerous studies deaIing with the reduction of CO2 emissions

(see a synopsis in IPCC 1996, MICHAELIS 1997). To identify the rosts related with any

reductions of CO2 emissions, economists principally apply two different approaches, known as

"top-down"-models and "bottom-up"-models

" T op-down"-models analyze aggregated behaviours based on economic indices of prices and

elasticities Furthermore, a "top-down"-model tries to capture the overall economic impact of a

climate policy, for example the introduction of quantitative restrictions or carbon taxes

"Bottom-up"-models on the other hand are based on a detailed analysis of technical potential

From an economic point of view, "bottom-up"-models have the disadvantage, that they only

add partial assessed potentials of mitigation, whereas potentials of mitigation in anational

economy often depend on each other (for more details see NORDHAUS 1991b or JOHANSSON &

SWlSIIER 1994)

Following a look at the results of the so-called "top-down"-models will be provided, because

F' these models take into account economic considerations like changes of prices, demands and

, reaction of adaption over time (for example see MANNE & RIcllELs 1990)

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There are many explanations für the disagreements choice of methodologies, underlying

assumptions, emission scenarios, policy instruments and reporting year For example, miti-

galion costs will be affected by a wide range of factors, including population growth, con-

sumption patterns, resource and technology availability, land use and Irade.

But as shown in table 32 -at this point presented with the current time horizon of the

different studies -rates of abatement in a magnitude of 20-500/. are attainable to costs lower

than 3% losses in the GNP -moreover in a medium range until the year 2050. Further

reductions are usually related with higher losses in GNP.

2100 .2090

2080

2070

..2060=..>- 2050 .

2040,--- .-+ c

..

2030' : :

2020 ..

2010

0 1 2 3 4 5 6

Loss ofGNP (in %)

Table 3.2: Related time homon of mitigation costs.

Source see text

An exact assessment of the costs of mitigating CO2 emissions is very unreliable and provides

tao many results with too many assumptions as explained above

The results of studies only für the United States or certain other OECD countries also provide

a wide range of estimates as weil as studies für transitional economies or developing count ries

(see IPCC 1996)

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But what about the case of detennining a vaJue for non-market goods like species logs? In this

case the economic theory has developed severaJ procedures, one of the most important is the

contingent vaJuation method This method uses survey-techniques to estimate a willingness to

pay which reflects how much individuaJs might be willing to pay for an environmentaJ resource

as -for example -the biodiversity By the way, recent studies provide convergent estimates

for severaJ environmentaJ resources (see an overview in CARSON et aJ 1996 or GElSENDORF et

aJ 1996). A fact that could be helpful in economic decision making.

Most available damage studies are concemed with the impact of an equilibrium climate change

associated with a doubling of the pre-industriaJ carbon dioxide equivaJent concentration of aJl

greenhouse gases Long run impacts however have gained less attention

For this case of 2xCO2 severaJ monetary damage vaJues have been estimated, mainly for the

United States. As shown in table 3.3 there are estirnates for a number ofsectors in the market

economy and -in addition -there are estirnates for some non-market damages

Table 3.3 sumrnarizes the existing estimates of climate change damage for the mentioned case

of doubling CÜ2.

In the United States the losses reach over 1% ofGross Domestic Product (GDP) in the studies

of CLINE (1992), FANKHAUSER (1995) and TOL (1995) up to 2.5% of GDP in the Trrus

(1992) estimates. It should be emphasized that the Trrus (1992) estimates are based on

average warmings of 4°C, evidently higher than the IPCC's best guess of2.5°C.

The results by NoRDHAUS (1991a) are less comprehensive and arrive at a caJculation of only

0.26% of GDP, primarily from the sea level rise In view of many not assessed categories,

NORDHAUS (199Ia) also sets a logs of 1% ofGDP as a reasonable centraJ estimate.

However, these damage figures in fact can deviate from true impacts, mainly for three reasons:

.-SeveraJ effects are not quantified, for example nontropicaJ storms, droughts or floods.

.Forms of adaptation are not fully taken into account; adaptation in this context offers a

means to reduce the harmful impacts of climate change

.Plausible the estimates are not exact, species logs vaJuation in particular could be rar higher

In fact, some ofthe economic figures presented above and in table 33 are based on earlier

climate and impact research

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10

Region FANKHAUSER (1995) TaL (1995)

.bn $ % GDP bn $ % GDPEuropean Union 63.6 14United States 610 13Other OECD 55.9 1.4

OECD Arnerica 74.2 1.5OECD Europe 56.5 1.3OECD Pacific 59.0 2.8

TotalOECD 180.5 1.3 189.5 1.6

Eastem Europe / FonnerUSSR 182' O. r -7.9 -0.3

Centrally plannedAsia 167" 47" 18.0 5.2

South andSoutheast Asia 53.5 8.6

Africa 30.3 8.7Latin Arnerica 31.0 4.3Middle East 1.3 4.1

Totalnon-OECD 89.1 1.6 126.2 2.7

World 269.6 1.4 315.7 1.9, Fonner Soviet Union only; China only

Table 3.4: Monetized 2xCOz Damage in Different World Regions (Annnal Damages)

Source: IPCC (1996).

The worldwide estimates of table 3 4 are expressed as the total sum of regional darnages

relative to the global rum ofGDP

Table 34 also shows that the darnage in developing count ries is more severe than in developed

countries FANKHAUSER (1995) and TaL (1995) report darnages für the Non-OECD region

about 16-27% losses ofGDP

The main causes für these high estimates are primarily health impacts and the high proportion

of natural habitats and wetlands that might be destroyed By the war, these data provide the

surely true indication that climate change will have the warst impacts in the developing world

For this reason can also be argued on equity grounds that there should be greater weights

placed on impacts für low income countries

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Figure 51 illustrates this shortly mentioned concept of marginal costs and marginal benefits in

a simplified model

Total Cost

Total COlt Curvc = AC+DC

ost, AC

; GHG Emission Reduction

Marginal Costs and Benefits

GHG Emission Reduction

Figure 5.1: Total and marginal costs and emission reductioDS.

Source after MICHAELIS (1997)

In the lower box, the marginal abatement cost at any level of emission reduction is equal to the

slope ofthe abatement cost curve at the same level- as sketched in the upper box

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14

Study Type 1991-2000 2001-2010 2011-2020 2021-2030

NoRDHAUS (l99la) MC 73

(03-65.9)

AYREs&WALTER(l99l) MC 30-35

NoRDHAUS (1994) CBA 53 6.8 8.6 10.0 .,..

CLn-rn(1992,1993) CBA 5.8-124 76-154 98-186 11.8-221 ..PECK& TEISBERG (1992) CBA 10-12 12-14 14-18 18-22

FANKHAUSER(1995) MC 203 228 253 278

(6.2-45.2) (7.4-529) (8.3-58.4) (92-64.2)

MADDISON(1994) CBA/MC 6 8.1-8.4 11.1-11.5 14.7-15.2MC = Marginal Social Cost studyCBA = Shadow Value in a Cost Benefit Analysis

Table 5.1: Tbe Social Costs ofCO2 Emissions in Different Decades (in 1990 $/tC)

Source: after FANKHAUSER (1995), IPCC (1996).

The pioneering examination on the social costs of CO2 emissions leads back to NoRDHAUS

(1991a) NORDHAUS (l99la) applied a dynarnic optirnization model and calculated social costs

of 73 $ per tonne of carbon emitted. The values in parenthesis result by applying different

rates of discount and varying assumptions on the 2xCO2 damages

Furtherrnore these results have been strongiy criticised by several authors CLn-rn (1992) für

example refered to the shortcomings of the model itself The assumption of a resource steady

state which implies a constant level of CO2 emissions over time is discussed controversially in

this context The simple linear structure of the climate and damage sectors also implies that the

costs will remain constant at 7.3 $/tC, although clirnate processes without any doubt are non-

linear and the costs of CO2 emissions will depend on future concentration and warrning levels

In other words, the rosts of CO2 emissions will vary over time t. .The calculations by AYRES & WALTER (1991) based on the NoRDHAUS model, hut the study

has additional shortcomings Highiy questionable für example is the assumption of identical I'commodity values in all countries of the world land prices in Europe clearly differ from those .

in India or Pakistan

The shortcomings of bis earlier paper were considered and corrected by NORDHAUS' (1994)second approach He applied the well-known DICE -Dynamic Integrated Clirnate Economy -

model which is a growth model including a climate module and a damage sector which feedI

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.The application of certain discount rates has extensive impacts and is -espacially in the

context of global warrning -discussed increasingly (for example BROOME 1992, AzAR &

STERNER 1996, BAYER & CANSlER 1998) NORDHAUS (1994) as weil as PECK& TEISBERG

(1992) and MADDlSON (1994) used a discount rate of 3% -following the rates of intereston capital markets. .

To make clear the extensive impacts of different discount rates, a view on figure 61 may be

helpful. ...100

90~ 80.:~ 70~

3 60...~ 50=-; 40~"5 30~..

~ 20

10

0

1 2 3 4 5 6 7 8 9 10 11

Decade

l=today; 11=in 100 Years

Figure 6.1: Present monetized losses in dependency of different discount rates.

Source see text

Figure 6 I shows on one hand the shape of a discount rate at 1% -the upper curve, and on the

other hand the shape of a discount rate at 3% -the lower curve . .It is easy to point out that a lower discount rate implies more extensive measures in GHG

emission abatement, because the present values of future losses are weighted higher. . .Whereas losses of -let's say 100 dollar -in 100 years today by using 3% discount rate are

worth roughly 5 $, they reach an amount of37 $ by using a 1% discount rate In other words,

by applying higher discount rates, a lower present value of future damages will result

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Related to a sensitivity analysis of certain parameters, variated definitions lead to other

"optimal" rates of GHG abatement Using a discount rate of only 1 % and cubic damage

function (DICE 3), a trebled rate of abatement in comparision with the former results of

NORDHAUS (1994) is obtained (MICHAELIS 1997)

Thus the application of a CBA in the context of climate change implies that using a sufficiently

high discount rate nearly every damage in future can be justified. Furthermore in this context,the application of a CBA implies also that the benefits of today's generation will be compared ' .

with the costs burdened on later generations This point leads immediately to aspects of inter- .

generational justice

In the view of these problems, an alternative approach is to ignore damage considerations and

exogenously impose an upper atmospheric concentration, detennined on the basis of ethical,

political or precautionary considerations (FANKHAUSER 1995). This approach is known as the

"carbon budget approach" and is part of the concepts relying sustainability and safe minimum

standards

There are mainly two arguments leading to the endorsement ofthe carbon budget approach:

.The first bases on questions relating to the uncertainty and claims für carbon targets in the

context of a risk minirnization policy To rninimize the risk of a clirnate catastrophe the

approach requires a target that is set at the maximun level of emissions under which a

clirnate catastrophe can reasonably be excluded

.The second argument relates to the monetization of global warrning impacts It questions

wether the impacts of global warrning can at aII be expressed in monetary terms Hence the

absence of darnage estimates implies that abetement targets have to be detennined on

different grounds, according to political, social or ethical considerations

One of the first suggestions in this context were provided by the UNEP Advisory Group on

Greenhouse Gases in 1989 The concentration of GHG have to be stabilized at such a level

that the possibility 0/ rapid, unpredictable and non-linear responses that could lead to

extensive ecosystems damage can be excluded ..Targets in more concrete terms have been proposed in several contexts and by several bodies

For example, the Toronto target of a 20 % emission cut, the Rio target of emission ..

stabilization at 1990 levels or the scientific targets set by the IPCC

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,

20

JOHANSSON, T & B SWISHER (1994): Perspectives on "Bottom-ip" analyses of the costs of

C02 emission reductions In OECO & IEA (International Energy Agency) (Eds) The

economics of climate change. Paris

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'. , -

Ernst-Moritz-Arndt-Universität GreifswaldRechts- und Staatswissenschaftliche Fakultät

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