Nordhaus: a Nobel for over-discounting, and no public goods

Nordhaus has gotten a Nobel for understating the damage from climate change, and overstating the cost of doing anything about it.

Nordhaus’ main contribution on climate has been an economic model of the damage from climate change, and the cost of migitaging damage. I don’t know his views beyond what’s in the model and the policy advice which flows from the model; in that light, what I write here may seem harsh, he may be a very nice and thoughtful person. But if the basic contribution of economics to the great problem of today is this … well, it’s one of those days to feel sheepish about being an economist.

A simple model with no allowance for catastrophe

The ways in which his influential models understate likely damage are many. For most of those it’s hard to blame him because they are rooted in the complexity and uncertainty of the problem itself – nobody really knows what the effects of heat and changing rainfall and sea level rise will have on crop yields, labor productivity, damage to infrastructure, disease, or war. It is hard to put great uncertainty in a model, and still have the model tell you anything. Robert Pindyck is worth reading on how little models like Nordhaus’ tell us.

For most of us, our ignorance on these matters is a reason for caution, for taking measures against the possibility of catastrophic outcomes. It is hard to express this in conventional frameworks of economic analysis, which is geared to studying marginal (incremental) effects; they work best if you can believe the great Alfred Marshall’s doctrine that “nature makes no leaps”. Of course, nature may indeed leap. Nordhaus’ model – and the policy advice that flows from it – is all about what happens near the mean, where things don’t leap but are stable; for too long that model was telling us not to worry much.

Discounting, or selling your grandchildren short

You can’t blame complexity or the habits of incrementalism, though, for Nordhaus’ use of today’s market discount rates to mark down damage to our great-great-grandchildren – a procedure which gives trivial weight to serious suffering (actual catastrophe having been left out of the model) by future generations. Such a use of market interest rates is a conventional practice among economists, but one with no theoretical or moral justification, nor any foundation in how people actually trade off long term serious damage against short term costs. Frank Ramsey, who gave us the basic models for analyzing discounting back in the 1920s, called the approach used by Nordhaus “ethically indefensible”; Martin Weitzman does a much better job with discounting damage from climate change.

Overstating mitigation costs by ignoring public goods

In addition to understating damage, Nordhaus-type models overstate the cost of mitigating climate change, because their measure of damage is reduction in GDP and the assumptions behind this damage are that of a price effect – like what you would get from uncoordinated individual (and corporate) responses to a tax on CO2.

The problem with that is that some big, cheap and feasible reductions in CO2 require steps that would reduce GDP and yet make us all better off, and will not come about simply by pricing carbon.

A simple, and important, example comes from local transport: for cities and towns to be environmentally sustainable, we need to switch from individual motor vehicles to public transport (buses, trains), and active transport (walking, cycling). If we had these things we would spend less time in traffic and would be a lot healthier; with a reduced overall transport spend and a more pleasant environment to walk around in, we would probably work less; GDP would fall, but we would have better lives.

But how do we shift from car-clogged cities to ones in which buses zip along, and it’s safe to cycle and to breathe? Pricing CO2 would help but just a little, and not enough. Costly fuel doesn’t provide bus services or make space for bike lanes or institute good land use planning in which new development favors buses, bikes and feet, rather than cars. All of those things are public goods: they require good government and good policies, and they require us all to pitch in through our taxes to provide common services. Even very expensive fuel won’t get me out of my car if the bus is stuck in a traffic jam, or if my house is in a low-density suburb far from work. Put a high price on carbon without providing these public goods, and you just make people miserable.

You knew all that about buses and bikes – it is not rocket science, not a new discovery; my mother told me all of this when I was growing up, without any economic terminology. But it is absent from models like Nordhaus’; such models keep the current structure of consumption intact, changing it incrementally with higher fuel prices. That’s much more expensive, and less effective, than combining carbon pricing with a radical rise in the provision of public goods, and for that reason it must overstate the cost of mitigation.

Understating damage while overstating the cost of mitigation makes a recipe for recommending inadequate action. Unfortuately, we can say for Nordhaus that the actions he recommended, however inadequate, were far better and stronger than those actually adopted by most politicians.

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