Climate economics’ support for the UN climate targets
A new paper published in Nature Climate Change shows that despite appearances to the contrary, the Nobel Prize-winning DICE ‘climate and economy’ model and the UN’s climate targets are in fact pulling in the same direction.
Nordhaus’s Nobel Prize win, the Paris Agreement and the gulf between them
On 8 October 2018, the Intergovernmental Panel on Climate Change (IPCC) released a special report cataloguing the strategies needed to limit global temperature rise to 1.5oC above pre-industrial levels. This is the goal that signatories to the UN Paris Agreement of 2015 are committed to achieving. Two hours after the IPCC report release, the Sveriges Riksbank’s Prize in Economic Sciences in honour of Alfred Nobel, known as the ‘Nobel Prize in Economics’, was awarded in part to William Nordhaus for his work on climate change economics, as embodied in the DICE (Dynamic Integrated Climate Economy) model. In Nordhaus’s words, DICE “attempts to use the tools of modern economics to determine an efficient strategy for coping with the threat of global warming”. Together, these were two important global statements about the seriousness of climate change as a global problem and the need for global action. Ostensibly at least, the world seemed to be pulling in the same direction.
Closer inspection, however, revealed an important gulf between these two global announcements. While the signatories of the Paris Agreement and the IPCC report were organising around the 1.5– 2oC limit, the central case in the Nobel Prize-winning DICE model proposed an optimal path of economic activity and climate mitigation (maximising the welfare benefits minus costs over time) leading to an optimal temperature rise of 3.5oC in 2100, increasing to 4oC in the following century. Most climate scientists would agree that this is an important difference since life on an Earth that has warmed by 4oC is likely to be fundamentally different to life on Earth at 1.5oC or 2oC warming.
The fact that a single economic model disagrees with an international political decision might seem unsurprising, even trivial, but this would be to underestimate the impact of Nordhaus’s work on climate policy and perspectives to date. The DICE model is central to, for example, the US Environmental Protection Agency’s calculations on the social cost of carbon, it is one of the key economic models used in the IPCC assessment reports, and when Lord Stern published his milestone Review on the economics of climate change in 2006, its conclusions were tested against the DICE model. Indeed, among climate change economists DICE represents a testing ground for policy advice and theoretical advances. In short, DICE has been hugely influential in policy and practice, hence the award of the Nobel Prize.
All the more important, then, to understand why the ‘DICE-optimal’ climate response leads to a 3.5–4oC temperature rise, suggesting that the costs of meeting the Paris targets of 1.5–2oC are not justified by the future benefits.
A result of outdated information – which can be remedied
In our paper we explain that in large part the higher temperature increase recommended by the DICE model results from outdated information on both the climate and social science aspects of the model. When updated to represent the current state of knowledge, even the DICE model shows that the optimal balance of costs and benefits should put us on a path that limits warming to between 1.5oC and 2oC. The findings hold in the simplest incarnation of DICE, without consideration of many other factors, such as uncertainty and climate tipping points, which would typically strengthen the arguments for immediate and strong action to limit climate change.
Updating the climate science
Given the gulf, which updates to DICE could possibly make the Paris targets optimal? First we considered the climate science. It turns out that the 2018 DICE model has some outdated assumptions in relation to how much carbon is absorbed (the carbon cycle) and how much increased concentration of greenhouse gases in the atmosphere affects temperature (the energy balance).
Concerning the carbon cycle, the rate at which carbon is absorbed from the atmosphere, either by the oceans, soils or elsewhere, depends on the concentration of carbon dioxide in the atmosphere. The DICE model is calibrated around the high concentration anticipated in a future, business-as-usual world with no interventions to reduce emissions. For that reason it understates how quickly CO2 is absorbed in a world that tries to meet a 2oC target.
Concerning the energy balance, in the current DICE model the temperature responds more slowly at first, and then (after some 50 years) more rapidly to higher atmospheric CO2 concentrations than evidence from the latest climate science shows.
These two updates alone reduce the temperature rise that results from taking an ‘optimal path’ by 0.5oC.
Updating the social science
In relation to the social science, the crucial elements are the magnitude of climate damages and the weight placed on future generations’ wellbeing: the social discount rate. We use the meta-analysis of Howard and Sterner (2017) to update the damage function. That study re-evaluates the same suite of studies used in DICE to generate the aggregate damage function. The studies are re-weighted to reflect the fact that many of them do not provide independent information, meaning studies by the same teams were weighted too heavily before. The re-evaluation leads to a damage function that predicts around 6.7 per cent loss in GDP as a result of 3oC of warming, rather than the 2.1 per cent GDP loss assumed in DICE.
On intergenerational fairness, a recent study by Drupp et al. (2018) revealed the extent of disagreement on the social discount rate for long-term welfare analysis. We update the discounting assumptions in DICE by using the median opinion among the 200 or so experts surveyed, rather than relying on Nordhaus’s position alone, which, it turns out, is not a centrally held view.
The updates to damages and the social discount rate lower the DICE-optimal temperature increase by an additional 1oC, to below 2oC. Further adjustments to DICE are also made, such as to bring forward the time at which negative emissions technologies (NETs) are available, from 2150 to 2050. Such changes do not reduce the optimal temperature so much, but rather, in the case of NETs, relax the speed at which emissions reductions need to happen. This increases societal welfare.
Singing from the same hymn sheet on climate change
Limiting temperature increases to between 1.5oC and 2oC, not 3.5 oC is an optimal strategy in welfare terms according to the DICE model when the latest climate and social science updates are applied to the basic deterministic version. This agrees with the limits enshrined in the Paris Agreement.
What our paper does not say, however, is that this ‘new optimal’ will be easy to achieve. With greater damages and more weight placed on future generations, the social cost of carbon, and hence optimal carbon tax, rises quickly to US$100-plus per tonne of CO2. Negative emissions technologies and other backstop technologies may attenuate the stringency of tax measures, but with optimality comes the need to make stringent reductions in carbon emissions, and fast. In this sense the updated DICE model and the Paris Agreement, and indeed the 2018 IPCC report, are all singing from the same hymn sheet in relation to climate change policy.
The paper ‘Climate economics support for the UN Climate targets’ by Martin C. Hänsel, Moritz A. Drupp, Daniel J.A. Johansson, Frikk Nesje, Christian Azar, Mark C. Freeman, Ben Groom and Thomas Sterner was published in Nature Climate Change on 13 July 2020.