Wednesday, June 30, 2010

the social cost of carbon

Video - Carbon Credits Explained.

PostAutisticEconomicsReview | The social cost of carbon may be the most important number you’ve never heard of. U.S. climate legislation may or may not make it through Congress this year, but in the meantime, the Environmental Protection Agency is moving ahead, authorized by the Supreme Court to limit greenhouse gas emissions. The Department of Energy is setting energy efficiency standards for residential appliances and commercial equipment, based in part on their contribution to climate change. Other agencies may address the same issues, when their regulations affect energy use and carbon emissions.

The social cost of carbon (SCC), defined as the estimated price of the damages caused by each additional ton of carbon dioxide (CO2) released into the atmosphere, is the volume dial on government regulations affecting greenhouse gases: The higher the SCC is set, the more stringent the regulatory standards. This white paper explains how economists estimate the social cost of carbon, why the Obama Administration’s current analyses are on a path to grossly underestimating it, and why relying on the SCC in the first place may be unproductive.

The EPA, DOE, and other agencies are deciding on values to assign to the SCC in the next few months as part of “rulemaking” processes that are couched in very technical terminology and largely invisible to the general public. In theory, it appears possible to derive the SCC from economic analysis, and the administration appears to have done so. In reality, it’s not so simple: Any estimate of the SCC rests on a number of value judgments and predictions about uncertain future events, and so far, the administration has made choices that lead to very low SCC values. In an interim and then a revised analysis, an interagency working group has presented multiple scenarios and possible values for the SCC; the interim analysis suggests, and the revised analysis explicitly endorses, a “central” estimate of $21 per ton of CO2 in 2010. This amounts to roughly 20 cents per gallon of gasoline, an extremely modest price incentive for carbon reduction. If adopted, this obscure number will have immense practical consequences: A low SCC could result in ineffectual regulations that lead to few if any reductions in U.S. emissions until Congress passes a climate bill.

Even greater harm could result if Congress interprets the $21 SCC as an endorsement of that level for a carbon tax or permit price. This could clash with the widely discussed, science-based goal of achieving an 80 percent reduction in U.S. emissions by 2050, an objective that will almost certainly require a much higher price on carbon. In the revised analysis, the central SCC estimate rises only to $45 per ton (in 2007 dollars) by 2050.2 If climate economics is (mistakenly, in our view) interpreted as supporting an SCC of only $21 today and $45 by mid-century, it could also be interpreted as advocating only the emission reductions that would result from those prices. That is, working backwards from the proposed SCC, one could infer that the appropriate cap on carbon emissions is much weaker than those found in recent legislative proposals. The resolution to this paradox is that, as we argue in this paper, the $21 SCC is based on flimsy analyses and multiple mistakes. Sound economic analysis would show that the SCC should be much higher, and thus could be consistent with the carbon prices required to achieve science-based targets for emission reduction.

Calculating the SCC is a new undertaking for the administration, and these initial estimates may represent work in progress rather than a final answer. In its first attempts, however, the administration’s interagency working group has left itself plenty of room for improvement.


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