Research and Policy to Tackle Climate Change

Leading international scholars present their cutting-edge research at Bocconi every year, in front of faculty and students. In order to make this work accessible to a larger audience, Bocconi Knowledge publishes the summaries of the scientific and policy seminars organized by the IGIER research center, written by the students participating in the IGIER-BIDSA Visiting Students Initiative.

As our hearts and minds focus on the pandemic, a silent but much more challenging threat is shaping our present and future: climate change. According to the IPCC, in the next 30 years we expect higher average global temperatures of one degree Celsius. It may seem small, but the consequences are momentous. In part, due to higher variability in precipitations and higher sea level, which will eventually submerge inhabited land, and also due to higher frequency of hurricanes and other catastrophes. What are the economic costs of this process? Which policies may help fix or soften it?

The IGIER policy seminar of 13 November, "Climate Change and Economic Policy", discussed these issues. The participants were Solomon Hsiang from Berkeley University and Christian Gollier from Toulouse University, two experts on this topic, and Tom van Ierland, head of the policymaking unit DG Climate Action. The moderator was Valentina Bosetti from IGIER, an expert on the topic too.

Hsiang presented his decade-long work on how climate change affects economic growth. Assessing such high dimensional relationship is challenging. Climate can change in many ways and the responses of society change in many ways, too. It is therefore impossible to create a unique model that comprehends all climate variables and possible human responses. In particular, locations most affected by climate differ from other locations in many ways, making the comparison difficult. In an ideal setting, the researcher would change the climate in one of two identical planets, comparing the outcomes between them. As this is impossible, Hsiang gathered a huge amount of historic data on populations and estimated the effect of climate changes over time for each population. The gist of the "experiment" here is to treat different periods as different planets and compare them to each other. The finding is that the economic effect on income on communities exposed to extremely strong cyclones is comparable to the one of a banking crisis (-7.4% over 20 years) and recovery occurs very slowly, if at all. Second, temperature significantly reduces the ability of people to carry out useful tasks: such productivity is maximized at around 25°C, and it steeply declines as it gets warmer. In sum, if nothing is done, climate change will severely hurt economic growth, and inequality will increase, for poorer nations will be more affected than the others (the already richer cooler countries may even benefit from warmer weather!).

So, what can we do? This is the question that Christian Gollier addressed. The challenge is obvious: the benefits of "green investments" accrue in the distant future, while the costs of taking action are immediate. Thus, doing nothing may well be everyone's preferred option. During the current pandemic societies have reached unprecedented levels of mobilization, but COVID is a highly salient problem. How can we expect an equally swift and coordinated action with climate change, given that temperatures increase by only 0,0001°C per day? Gollier argues that, as long as governments attach importance to climate change, which should not be taken for granted but seems increasingly true, social coordination might be achieved by using policies that make it profitable to invest in green technology. He proposes two ways of doing so. First, the government could distribute carbon emission permits that can be exchanged among firms, allowing green firms to profit by selling their right to pollute to other firms. Here the total emission would be capped by the total permits issued. A second option is to set a "Carbon Tax", namely a tax on emissions by firms and households. The tax rate would be set on the basis of emission targets and economic indicators. The revenue of the tax could be used for green investments and to compensate the poorest individuals for the lost purchasing power. One key policy problem is "Carbon leakage": some countries may eschew these policies and specialize in polluting technologies, making the effort self-defeating. Gollier argued that this issue can be addressed with the idea of "Clubs", whereby active countries would charge trade penalties to polluting countries, as suggested by the Nobel Prize winner of 2018 Nordhaus.

So, if there are policy tools to deal with climate change, why aren't they applied? Tom van Ierland gave us a brief peak into the complexity of reaching an agreement within the EU. The high dimensionality of climate but also of human psychology is a challenge also for finding a solution to climate change! At the same time, Van Ierland stressed important EU achievements in recent years that should make us optimistic. The EU has already adopted Gollier's first proposal by creating the ETS (Emission Trading System), and it is now working to extend it to every carbon-intensive sector. Moreover, the commission set the goal of becoming emission neutral by 2050, while setting milestones to supervise member governments. The commissioner noticed that lowering carbon emission must be profitable, but the removal market (such as reforestation and other carbon-absorbing activities) must gain importance, and EU is working in that direction as well.

In conclusion, climate change is a large economic and social threat, there are policies to fix it, but ways must be found to translate them into a coherent and effective global policy framework. Matters become even more complex if we consider how climate change can exasperate existing inequalities. With COVID-19 so salient in our minds, let's not forget about the decades-long battle that humanity is facing to preserve the environment and its viability for our children and grandchildren.