Friday, September 25, 2009

Visualizing the "costs" of cap-and-trade

With health care reform drawing close to its climax, the debate over global warming legislation is about to heat up. Given the scientific consensus on global warming, the main arguments won’t center as much on the science as on the supposed economic costs of the bill. That’s according to Nobel-winner Paul Krugman in today’s New York Times.

Predictions of economic doom are all wrong, says Krugman. For one thing, we can achieve big greenhouse gas reductions simply by eliminating waste; according to McKinsey, investments in energy efficiency spurred by cap-and-trade will save the US economy $700 billion by 2020 (or about $636 per family per year).

Even once the low-hanging fruit is gone, the costs of fighting global warming will be small – by 2020, about the cost of a postage stamp per day. By 2050, the cost will rise to about 1.2% of income, but we will also be 80% richer by then, so we’ll barely notice the impact; in 2009 terms, that’s about $603 per household – or $1.65 per day. Hardly the predictions of an “economy-crippling tax.”

Now, my general position is that it’s a bad strategy to argue your case using facts and figures. People’s perceptions of whether a number is large or small, expensive or inexpensive, depend on a reference point for evaluation, so it’s easy to manipulate those perceptions by shifting the reference point (for example, restaurants know that adding an expensive menu item will increase profits even if no one buys it, simply because items that were previously the most expensive appear cheaper by comparison, so people by them).

Moreover, for the layperson who hasn’t seen the math behind the figures, it’s impossible to figure out which side’s figures are correct. I say cap-and-trade will cost $160 per year, you say it costs $1,200. The numbers promoted by industry may well be manipulated with faulty assumptions, but unless I check the model, there’s no way to tell; thus, I believe whichever number supports my existing point of view. Throwing facts and figures around reduces the debate to he-said-she-said.

So I’m here to show you why it doesn’t matter which side’s numbers are correct: either way, the costs of fighting global warming are imperceptibly small.

The worst-case scenario is an analysis by the National Association of Manufacturers (NAM), a special interest group opposed to cap-and-trade. Their estimate is not realistic – the model assumes the cost of carbon permits is $159 per ton in 2030, more than twice the Congressional Budget Office’s estimate – but let’s go with it.

Here’s what the worst-case impact of cap-and-trade on GDP looks like:

I had a hard time labeling the graph because there was so little space between the lines. Business as usual GDP will be $23,802,000,000,000 in 2030. In the worst-case scenario, it’s $23,231,000,000,000. That comes out to a whopping 0.15% reduction in annual GDP growth. Does that really sound like a high price to pay for averting the potential collapse of civilization?

Even that figure is undoubtedly too high. Cost projections for past environmental regulations have always overestimated costs because they can’t predict technological innovations inevitably spurred by the reforms. According to BusinessWeek:

These [cost] estimates are notoriously unreliable, however, because it’s very difficult for economic models to take into account innovations that might occur as the result of a cap on carbon emissions. In fact, the reassuring lesson from history is that new regulations, such as the 1990 rules on acid rain, usually spur enough clear ideas to both reduce costs below predictions and deliver greater benefits.

In this way, making things harder on business in the short-term actually spurs economic growth. For a party that claims to believe in capitalism, Republican opponents of cap-and-trade sure seem pessimistic about American entrepreneurs’ ability to rise to the challenge and innovate as we always have done.

By contrast, climate change models typically underestimate future global warming, for two reasons. First, scientists are continually discovering new positive feedback loops that amplify global warming, which previous models didn’t account for. For example, as CO2 warms the climate, melting permafrost releases methane (an even more powerful greenhouse gas than CO2), causing more warming, causing more permafrost to melt, and so on. Second, most of the figures you see cited in the media are “middle-of-the-road” estimates that assume governments will take action to reduce CO2 emissions; without cap-and-trade, the impacts will be much worse than models project.

In other words, any time you read about global warming, you should assume the damages from global warming will be much greater, and the costs of solutions much less, than whatever the article suggests.

Has anyone estimated Gchat’s effect on GDP? I’m sure it’s much larger.


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