Presentation to Global Conference on Environmental Taxation

Copenhagen, 25th September 2014

Energy, Climate Change and the Three Domains of Sustainable Development

Michael Grubb Prof. International Energy and Climate Change Policy, UCL

Senior Advisor, Sustainable Energy Policy, Ofgem

Editor-in-Chief, Climate Policy journal

With

Jean-Charles Hourcade and Karsten Neuhoff

Planetary Economics

Planetary Economics

Global Conference on Environmental Taxation (GCET15) “Environmental taxation and emissions trading in an era of climate change”

- Copenhagen, Denmark, 24-26 September 2014.

• On aims & evidence

• The Three Domains and Three Pillars of Policy

• Pillar II conclusions

• A Three Domains perspective on carbon pricing

• On slaying some sacred cows

Keynote talk, “Time to take Stock:

Changing the role and narrative on carbon pricing”

• What are we here for?

– Internal, career, or influence motivations

• What evidence do we look at to evaluate our impact?

– Own evaluation of our own messages and analysis?

• Environment, Revenues & double dividend ..

– News on progress and bright spots?

• Always signs of hope

– Empirical data on implementation?

Two fundamental questions

Environmental taxes are a small share of economy

in Europe (and elsewhere)

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Environmental taxes as a proportion of GDP, 2012

Total tax inc SSC in EU countries

typically 30-45% of GDP;

Environment & resource taxes

typically 4-10% of revenues

.. And have been in long-term slow decline

Various interpretations are possible, of course ..

Carbon Hopes? News and selection bias risk

in carbon-related pricing

Bright spots …. and the Dark

• [Portugal Commission]

• Scandinavia, British

Colombia, California ..

• Korean ETS survival, Chinese

pilots

• World Bank survey of carbon

pricing

• ‘Business leaders’

• … 2015 fantasies

• Waxman-Markey

• The French carbon tax

• .. And EU ETS reality

• Japan

• Australian repeal

• Canadian woes

• G77 realities??

• ‘Business opposers’

Two quotes

‘Carbon pricing is political suicide’- Stephan Dion,

former Canadian Environment Minister

and (briefly) leader of the Liberal Party

Comment after losing the General Election to Stephen Harper

“There appears to be a nearly inverse relationship between

those policies that policy analysts tend to endorse as

holding the greatest promise .. and political feasibility ..”- Rabe 2008, 106

As cited in Grubb et al.,

Planetary Economics, Chapter 6: ‘Pricing pollution: of Truth and Taxes’

One definition of the art of taxation

‘Plucking feathers from the goose

with the minimum of squawking’

It looks like relevant consumers & resource owners can

squawk very effectively, whether the proposition is viewed

as ‘taxing bads’ or as sources of revenue (or both)

Planetary Economics

Global Conference on Environmental Taxation (GCET15) “Environmental taxation and emissions trading in an era of climate change”

- Copenhagen, Denmark, 24-26 September 2014.

• On aims & evidence

• The Three Domains and Three Pillars of Policy

• Pillar II conclusions

• A Three Domains perspective on carbon pricing

• On slaying some sacred cows

• Integrated packages and interdisciplinarity

Keynote talk, “Time to take Stock:

Changing the role and narrative on carbon pricing”

Fig. 2 -3 b Resource trade-offs with the other two domains

Three Domains – an Economic Interpretation

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ourc

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Economic Output / Consumption

3rd Domain

1. Real-world individual and organisational decision-making

“Transforming” behaviour

“Optimising”behaviour

1st Domain

“Satisficing”behaviour

2nd Domain

3. Innovation & evolution of

complex systems

Satisficing

Habits, myopia, inattention to incidental / intangible costs; endemic ‘contractual failures’, principal-agent failures, risk

aversion to change or investment

Behavioural and

organisational economics

DOMAINTheoretical foundations

Characteristics

Three Domains of decision-making involve different processes with

different theoretical foundations, operating at different scales

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Optimising

Economic optimisation based on relative prices,

‘representative agents’with ‘rational expectations’, stable

preferences and tech trends

Neoclassical economics

Transform-

ing

Structural, technological, institutional and behavioural

change, typically from strategising, innovation, infrastructure investment

Evolutionary and

institutional economics

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H Highest relevance

M Medium relevanceL Lowest relevance

Satisfice

Transform

Optimise

DomainStandards & Engagement

Markets & Prices

Strategic Investment

Smarter choices

Cleaner products & processes

Innovation & infrastructure

1 2 3

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To deliver

Policy pillars

Solutions need to harness corresponding policy pillars based on the Three Domains, to transform energy systems

Planetary Economics

Global Conference on Environmental Taxation (GCET15) “Environmental taxation and emissions trading in an era of climate change”

- Copenhagen, Denmark, 24-26 September 2014.

• On aims and evidence

• The Three Domains and Three Pillars of Policy

• Pillar II key points

• An integrated perspective on carbon pricing

• On slaying some sacred cows

• Integrated packages and interdisciplinarity

Keynote talk, “Time to take Stock:

Changing the role and narrative on carbon pricing”

Cost of Carbon

Increased costs for ETS

companies

Price rises for ETS sector

products

Desired result – supply side

Product substitution and demand

reduction

Substitute low carbon products

developed

Reduced emissions

Desired result – demand side

Profitability of emissions

reducing actions improved

Low carbon technology developed

Reduced emissions

Impacts on trade patterns and

competitiveness

Reduced investment in factories in

ETS -

Fewer jobs in ETS region

Reduced operation in ETS

– Increased production and

emissions outside ETS

Undesirable side-effects

Price pass through

Cost of Carbon

Increased costs for ETS

companies

Price rises for ETS sector

products

Desired result – supply side

Product substitution and demand

reduction

Substitute low carbon products

developed

Reduced emissions

Desired result – demand side

Profitability of emissions

reducing actions improved

Low carbon technology developed

Reduced emissions

Impacts on trade patterns and

competitiveness

Reduced investment in factories in

ETS -

Fewer jobs in ETS region

Reduced operation in ETS

– Increased production and

emissions outside ETS

Undesirable side-effects

Price pass through

Figure 8-2 Desirable and undesirable effects of carbon prices

Source: Adapted from Carbon Trust (2010)

Carbon pricing has environmental benefits on both supply and demand side

– but problems for the corresponding producers and consumers, & in between

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41% of EU ‘value added’ (GDP) in manufacturing industry + utilities

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basic chemicals

Paper

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c. 2 % ‘value added’ of EU GDP

Figure 8-4 Impact of carbon pricing on EU industry sectors and their share of the EU economy

Who’s hit?

In industry – c. half a dozen primary commodity sectors

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Figure 8-7 Household expenditure on energy UK 2008

Downstream the direct impacts are ‘all losers’ and regressive:

‘bills constancy’ hinges on the other Pillars

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European CO2 price

Phase I

European CO2 price

Phase II

European CO2 price

Phase III

EUR/t

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Fig.7.2 Evolution of European carbon and international offset pricesData Source: European Climate Exchange

Evolution of the EU CO2 (spot) price

Fragile design and Murphy’s law have rendered EU ETS

useless for either revenue or investment planning

Some have blamed this on the success of Pillar I and III policies .. !

Price stabilisation mechanisms are essential for credibility –

and also for revenue utilisation and linkages to other domains

Figure 7-8 Steadying mechanisms for emissions trading systems

Note: The Figure illustrates mechanisms to help emissions cap-and-trade systems deal with deep uncertainties , so as

to maintain a reasonable balance of price and quantity objectives. The mechanisms are most simply illustrated with

respect to price floors and ceilings, in which case the shaded area indicates the likely region of price and quantity for

a system with substantial surplus allowances. However the same principle could apply to other ‘threshold’ triggers,

for example based on the level of cumulative surplus.

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Withheld allowances

returned

Cap alleviated

Allowances withheld

at floor

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allowances

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Pillar II Conclusions

• Too much ‘looking under the lamppost’

• The economics of carbon pricing are as much about design and strategic credibility than level

• The politics of carbon pricing are driven by distributional impacts and the lack of clearly articulated positive narrative for either industry or consumers

• Links to the other two domains are central to any ‘tangible’ positive narrative, drawing on ‘Bashmakov’s Constant of Energy Expenditure’

Planetary Economics

Global Conference on Environmental Taxation (GCET15) “Environmental taxation and emissions trading in an era of climate change”

- Copenhagen, Denmark, 24-26 September 2014.

• On aims, evidence and data

• The Three Domains and Three Pillars of Policy

• Pillar II key points

• An integrated perspective on carbon pricing

• On slaying some sacred cows

Keynote talk, “Time to take Stock:

Changing the role and narrative on carbon pricing”

Standards & Engagement

Markets & Prices

Strategic Investment

POLICY PILLARS

Technology options &

competitiveness

A reconstructed narrative around carbon pricing must include positive

interactions between pillars which also separates prices from bills

Manage bills, increase

responsiveness

Revenues, revealed costs, strategic value

Values, pull & preferences

Attention, products &

finance

Education, access & control

On slaying some sacred cows

• Environmental pricing is struggling in practice

– re-invigorating it requires revision of theory

• Environmental pricing is not the uniquely best way

– it is the most efficient instrument for one important domain of tackling

environmental problems

• ‘Earmarking’ has been widespread in practice and should not be

taboo in theory

– revenues have been the theoretical attraction but the practical problem;

politics requires turning that around

• Efficiency of tax vs trading etc are almost irrelevant

– Design, credibility, linkages and narrative are as important as price

1. Attention

effects and

funding

• rising steadily enables efficiency to keep pace

and stop much rise in total bills

• efficiency programmes may counter regressive

concerns?

2. Rising price

differential

• steadily reduce use of coal in power

generation without huge asset stranding

• help to move renewables over time from

transitional subsidies into mainstream market

3. Long term

visibility and

leverage

• increased investment stability

• time and leveraged funding for innovation,

infrastructure and tech transfer programmes

… but just maybe could design a ‘First among Equals?’

A rising base carbon price could contribute across domains:

Embedding in international agreement could enhance

stability and credibility

Planetary Economics

GETC-15 Keynote talk, “Time to take Stock:

Changing the role and narrative on carbon pricing”

- One in series of “Application” talks

‘When The Economist gets it

wrong on energy – and why’,

BIEE, 17th September

Lessons from UK energy policy

and the EMREurelectric / PKEE conference on EU

2030 goals

Warsaw, 28 Sept 14

Changing the role and

narrative of environmental

taxation Global conference on Environmental

Taxation, Copenhagen, 27 Sept 14

Planetary Economics

Pillar 1

• Standards and engagement for smarter choice

• 3: Energy and Emissions – Technologies and Systems

• 4: Why so wasteful?

• 5: Tried and Tested – Four Decades of Energy Efficiency Policy

Pillar II

• Markets and pricing for cleaner products and processes

• 6: Pricing Pollution – of Truth and Taxes

• 7: Cap-and-trade & offsets: from idea to practice

• 8: Who’s hit? Handling the distributional impacts of carbon pricing

Pillar III

• Investment and incentives for innovation and infrastructure

• 9: Pushing further, pulling deeper

• 10: Transforming systems

• 11: The dark matter of economic growth

1. Introduction: Trapped?

2. The Three Domains

12. Conclusions: Changing Course

Next academic book lecture: London School of Economics, 6 November 2014

www.climatestrategies.org/events/2014-events/book.html for information and register of related events.