It seems like everybody is talking about carbon pricing these days, but few have approached the issue from the perspective of finance ministers, which is where the rubber hits the road.
Two weeks ago, on the sidelines of the World Economic Forum in Davos, former U.S. Treasury Secretary Larry Summers and a group of financial mandarins came up with a carbon-pricing cheat sheet for finance ministers at a Chatham rule dinner discussion hosted by Corporate Knights.
The dinner generated seven kernels of wisdom:
First, the scientific argument is substantially over. There’s no question anymore that it’s an imprudent risk to put business-as-usual levels of carbon into the air. One can debate just what the risk is or just what the minimum levels are. But no sentient person can fail to appreciate that the current trajectory is enormously dangerous. The scientific arguments on this are reminiscent of the smoking debate. No sensible person is in any doubt that that there needs to be a large-scale adjustment.
Second, if achieving our carbon aspirations comes only at the expense of global economic growth, no change will be made. Environmentalists hurt their own cause by arguing that saving the planet should be expensive, and suggesting that the nobility of the cause rightly outweighs the cost. In fact, more progress could be made by taking a pragmatic approach and treating lowering carbon emissions as simply a necessary operational task.
Third, there is a great deal of evidence that when markets are harnessed technological innovation is surprisingly effective. Putting a price on carbon and making the move toward a low-carbon economy costs less than people believe. Estimates of high cost have to be approached with great scepticism.
True, as a general rule, initiatives like hosting the Olympics, upgrading nuclear plants or building stadiums tend to cost two to three more than originally thought when the final bill lands. Conversely, environmental cost estimates tend to overstate the costs by a factor of three. This was the case for Los Angeles tackling smog after the Second World War and, more recently, controlling sulphur dioxide to beat back acid rain. The logic is simple: those estimating costs for nuclear plants have a vested interest in building them, and those estimating costs for transitioning to a low-carbon economy have a vested interest in the status quo. We need to recognize that if you force environmental improvements, they usually end up cheaper than people are led to believe.
Fourth, markets are powerful and elasticities in the long run are really much higher than they are in the short run. Given a choice, would we rather tax things that we want to discourage like carbon and tobacco, or things that we want to encourage like work and savings? There is a compelling case for increases in the prices associated with carbon pollution, and a carbon tax that is proportional to emissions will be most effective.
Fifth, this is an incredibly good moment to price carbon. The price of oil is half of what it was four months ago. A price on carbon will be less noticed and resisted when consumers of gasoline, diesel and other oil products are enjoying dramatically lower fuel costs.
Sixth, it’s important to focus more on carbon prices rather than on carbon quotas. Quite simply, a carbon tax is much less volatile than an emissions trading scheme. Cap-and-trade systems have proven to be more complicated to operate than expected in Europe, as well as in the United States, where they have struggled to get off the ground. Be wary of carbon markets as many can game the system to generate private profits for little carbon benefit.
Finally, eschew the absolutist rhetoric and don’t let the best be the enemy of the good. Putting a price on carbon is a precautionary adjustment necessary to guard against the risks of climate change. With governments facing fiscal and growth pressures, reducing taxes on things that we want more of by placing taxes on things we want less of – like carbon pollution – is an idea ripe for implementation.
The time to act is now.
A version of this article ran in the Globe and Mail on February 2, 2015.