Ecology and Economics

A 'Stern' Look at Uncertainty, Novelty, and Surprise

Via Greg Mankiw: "Economists Joe Stiglitz, Nicholas Stern, and Martin Weitzman [PDF] have new pieces on global warming. The most interesting (as well as the most technically demanding) is the one by Weitzman. His conclusion: 'The Stern Review may well be right for the wrong reasons.'" I agree. In particular, I agree with Weitzman's conclusions. Here's a condensation:

… If the conclusion from the last section — that what to do about global warming depends greatly on the imposed interest rate — is seen as disappointing, then a second conclusion is likely to seem downright unnerving. …[E]ven if we had an infinite time series of past observations, they are of limited relevance in an evolving world where the environment is changing and the past never fully repeats itself. With this interpretation of the puzzles, people are willing to pay a lot for relatively safe stores of value that might represent a bit of insurance against out-of-sample or newly-evolved rare disasters.

There is little doubt that the worst-case scenarios of global warming are genuinely frightening. The Stern Review goes over several of these unlikely disasters associated with abrupt large-scale irreversible changes in the climate system: sudden collapse of the Greenland and West Antarctica ice sheets, weakening or even reversal of thermohaline circulations like the Gulf Stream, runaway amplification of global warming due to the many potential reinforcing feedbacks…. More gradual but still very serious are elevated sea levels, drowned coastlines, extreme weather patterns, flood risks, catastrophic tropical-crop failures, new humidity-nourished contagious diseases — and the list goes on and on.

Translated into the language of the simple model used here, such rare disasters are far out in the left tail of possible low, or even negative, or even possibly very negative values of …. The net result is thicker left tails for growth rates under dynamically-evolving global climate change than we are accustomed to dealing with in our much-more-familiar dynamic-stochastic-general-equilibrium macro models, which in practice are based upon the stationary thin-tailed stochastic processes that we use to model a rational expectations equilibrium whose structure is fully known. …

… [I]n lumping together objective and subjective uncertainties and thereby obscuring their distinction — to the extent that a graduate student today hardly knows, or even cares, what kinds of probabilities are legitimate to plug into a rational expectations equilibrium and what kinds of probabilities are illegitimate for this purpose — I think that contemporary economic practise goes too far and leads to a mindset that all-too-easily identifies subjective probabilities with sample frequencies from past data. …

… The upshot of this uncertainty about uncertainties is that [we are dealing with thick left tails] whose exact thickness depends not only on how bad a catastrophe global warming might induce and with what probability, but also on how imprecise are our probability estimates of the probabilities of those bad catastrophes. …

… [T]o ignore or suppress the significance of rare tail disasters in an application of expected utility theory like cost-benefit analysis of climate change, where there is so obviously limited data and limited information about extremes, is to ignore or suppress what theory is telling us is potentially the most important part of the analysis. … The take-away message here is that the burden of proof in the economics of climate change is upon whomever wants to model optimal-expected-utility growth under endogenous greenhouse warming without uncertainty tending to matter more than risk. Such a center-or-the-distribution modeler needs to explain why the necessarily-thickened tail representing rare disasters under uncertain structure does not play a critical role in the analysis. …

Ecosystem Values: A first step in comparing Ecol Econ to Env Econ

Folks at the Environmental Economics blog love to point out the folly of adding up all the so-called nonmarket benefits from nature (often called environmental services) and somehow assigning a monetary value to them. The poster child of this effort is Robert Costanza et al's The Value of the World's Ecosystem Services and Natural Capital , Nature, vol 387, May 15 1997. Another very recent example is here.

Good for them. In a recent criticism, John Whitehead daylighted (new to me) a very good article by Nancy Bockstael and others that answers the question: "Given the [desirable] purpose of the Constanza article, does is matter if the analysis is wrong?" Of course it does. Read Bockstael and others to gain insight into correcting Costanza et al problems as well as other long-standing problems in context-dependent environmental valuation. Costanza and co-authors are certainly not unique in their errors.

Whitehead also uses the post to pigeonhole ecological economists into two camps, saying:

It seems that there are two sorts of ecological economists. The first sort is the environmental economist who grew frustrated with some of the constraints of neoclassical economics but did not reject economics. I think of these types as "economic ecological economists." The work they do is environmental economics with greater integration of ecology and maybe a bit more fire and brimstone. These can all be good things.

The second sort is the ecologist who grew frustrated with economics and rejects neoclassical economics. In fact, this type is happy to stand up at a conference and tell everyone what is wrong with economics and economists. I think of these types as "ecological ecological economists." The work they do is ecology with some economics (and a lot of fire and brimstone) thrown in, and a lot of times the economics isn't always exactly right.

For me, the bottom line is: beware environmental values developed by the ecological ecological economist.

Ok in part. But's let's broaden the focus and say, "Beware environmental values developed by economists." But Whitehead's view is too narrow. There are far more than "two sorts of ecological economists." {For the record, some of us in the ecological economics world were not happy with the Costanza paper when it came out and are not happy that the legacy continues. We are also not happy with a whole lot of other stuff that appears under the banner "economics." But we don't let that stop us from trying to improve the workings of our discipline.}

Ecological economics is a big tent that allows for cross-disciplanary discussion between economists of various stripes, ecologists, and others. For those interested in better understanding what ecological economics is about, and in contrasting it to traditional environmental and resource economics, I recommend Jeroen C.J.M. van den Bergh's Ecological Economics: Themes, Approaches, and Differences with Environmental Economics [PDF]. Here's a sampler:

Global warming: legislating for temperance

Last week at the Oikos Blog I looked at global climate change in the context of Garrett Hardin’s ‘tragedy of the commons’ idea. In an unregulated common, each individual gains all the benefit from intensifying his or her use or pollution of it, while only facing a portion of the cost of that intensification. So everyone has an incentive to use and pollute it more, to the eventual detriment of all.

The tragedy of the commons is an example of what game theorists call a prisoner’s dilemma. I won’t go into detail (check out the wikipedia entry for a good explanation) but the general idea is that the game is set up so that it is in each player’s individual interest to cheat, so they all do, but that ultimately leads to everyone being worse off than if they’d all co-operated.

It seems to me that the current international negotiations about climate change are the ultimate prisoner’s dilemma. It is in each nation’s best (economic) interests to have each other country do something about limiting greenhouse gas emissions, but not do something themselves. If you take on costly measures to reduce your emissions and everyone else does too, that’s good. But better is if you avoid the cost and let everyone else do the work. Worst is if you take on the cost and no-one else does – you cop the economic hit to your industries of emission costs and you still get hit with the costs of global warming. So, individually, it’s in each country’s best interests to do nothing. Of course, collectively, that spells disaster for us all.

The way around this is by not acting in our own selfish interests, but getting together and agreeing on measures for every country to reduce its emissions – as Harding said ‘mutual coercion mutually agreed upon’.

In the early 1990s, 189 countries came to this realisation and signed the United Nations Framework Convention on Climate Change, which came into force in 1994. This provided for general measures such as compiling and sharing data about emissions and climatic changes. In 1997 this was turned into more concrete obligations through the Kyoto Protocol, which 84 countries – including the US and Australia – signed. The Protocol came into effect last year when ratified by countries with more than 55% of global greenhouse emissions. It has now been ratified by 163 nations. The US and Australian governments have had a change of heart since signing the Protocol and have said they will not seek to ratify it, which means they are not bound by it. The only other countries which have signed and then failed to ratify are Croatia, Kazakhstan, and Zambia.

So Kyoto has a good coverage of countries with only very few dissenters. Nevertheless, I think it’s fair to say that Kyoto looks vulnerable. The Australian and US governments have not only not joined - they seem to want to undermine it. The have claimed that Kyoto is unfair and ineffective because it does not place emissions limits on developing countries. Developing countries say it would be unfair to do so because they need to emit more in order to develop. They suggest that if industrial countries want them to reduce their emissions, they should assist them in developing cleaner energy. (That is already part of how Kyoto works – countries can gain credits by investing in emissions reduction projects in developing countries.)

And this impasse might be getting even more entrenched. Few countries have yet taken strong steps to reduce emissions and the countries which look like they may not be going to meet their obligations are rethinking their commitment – not least because they see the US and Australia getting away with thumbing their noses at the Protocol. Canada’s new government has taken some pot shots at the Kyoto Protocol and says Canada will not meet its targets, although for now it has said it will remain in the Protocol for the next commitment period beginning in 2012. The first round of obligations has set a very modest target of a 5% reduction from 1990 levels among industrialised countries. Even that may not be met and when developing countries are considered, total global emissions will have increased since 1990.

Meetings have just taken place in Bonn to start talking about targets for the second period, starting in 2012. These will need to be much stricter targets and the political will to take these on might be waning with Australia, the US and developing countries not taking on targets and countries such as Canada, New Zealand and Japan having trouble meeting even their first round targets.

To speculate about the way forward, the glimmers of hope seem to me to be:

• National action will become less important as local, state and regional governments and communities take bolder measures;
• International aid will be increasingly targeted at clean energy, helping to restrain emissions growth in developing countries;
• There will be modest technological advances which help decouple economic growth from emissions growth.

But ultimately I think our biggest saviour may just be peak oil. Oil’s not going to run out any time soon but it seems like it will get gradually more expensive to produce as the cheapest sources are exhausted. I don’t know if oil prices will stay at current levels, go up or go down, but I doubt they’ll return quickly to less than US$30, where they were only a couple of years ago. At current levels, a whole range of alternative energy sources become commercially viable (see this article from The Economist).

Hardin’s solution to the tragedy of the commons was to all agree to limit how many cattle we graze there. We’re having trouble doing that, so it might be a good thing that we seem to be slowly running out of cows.

Tim Haab Welcomes Us to the EcoEcon Conversation

Tim Haab shared his sentiments relative to a position drawn by the US Society for Ecological Economics. Haab's post gives us a chance to see where we, individually and/or collectively differ from or agree with those who blog on Environmental Economics. Let's see if folks will use our comments capability to help flesh out similarities and differences. Here's Tim's post:

Welcome Eco-Econers

... I thought I would share my views (and I repeat these are MY views only) on the relationship between Ecological Economics and Environmental Economics--and yes I think this is a complementary relationship. To do so I will use the Position Statement of the U.S. Society for Ecological Economics:

My comments are in italics:

Position of the United States Society for Ecological Economics on Economic Growth

Whereas:

1) Economic growth, as understood by most professional economists, policy officials and private citizens, is an increase in the production and consumption of goods and services, and;

As long as you include nonmarket goods and services (such as environmental amenities). Environmental economists have spent over 50 years developing methods to measure the value of environmental and more recently ecosystem services.

2) Economic growth occurs when there is an increase in the multiplied product of population and per capita consumption, and;

Subject to the qualifications in my response to 1), I agree.

3) The U.S. economy grows as an integrated whole consisting of agricultural, extractive, manufacturing, and services sectors (and the supporting infrastructure) that requires physical inputs of non-renewable resources, land and water, and that produces wastes, and;

Agreed. Here's a nice simple model of an economy from the eyes of an environmental economist. Seems to capture #3 [PDF].

4) Economic growth is usually measured by increasing gross domestic product, although this is an inadequate indicator of human welfare, and;

Yep.

5) Economic growth has long been a primary policy goal of U.S. society and government because of the belief that it leads to an enhanced quality of life, and;

That's why most environemtal economists I know would never strictly equate increases in GDP to increases in well-being.

6) Economic growth occurs in a finite and depletable biophysical context, and;

And?

7) Continuing non-renewable, resource-intensive economic growth is having unintended damaging consequences for ecosystems and human societies;

I like to call these 'externalities.'

Therefore, the United States Society for Ecological Economics takes the position that based on the above evidence:

1) There is a fundamental conflict between economic growth and ecosystem health (in such areas as biodiversity conservation, clean air and water, atmospheric stability), and;

OK, I think I might disagree with this just a little. By using the straw-man definition of economic growth, this turns into a tautology. 'Economic growth that uses ecosystem inputs but doesn't count them, uses ecosystem inputs but doesn't count them.'

2) There is a fundamental conflict between economic growth and the ecological services underpinning the human economy (for example, pollination, decomposition, climate regulation), and;

This is where my views start to depart from the ecol-econ view, I think. Such statements are without context and in my opinion lack prescriptive value. It is too easy to pick up on such statements and interpret them as "economic growth and environmental protection are incompatible. Therefore economic growth is bad."

3) Although technological progress and unregulated markets have had many positive effects they cannot be depended upon to fully reconcile the conflict between economic growth and the long-term ecological and social welfare of the U.S. and the world, and;

That's why environmental economists are concerned with measuring economic welfare in the context of human-environmental interaction.

4) A sustainable economy (that is, an economy with a relatively stable, mildly fluctuating product of population and per capita consumption) is a viable alternative to a growing economy and has become a more appropriate goal for the U.S. and other large, wealthy economies, and;

Sustainability does not have to mean economic stagnation.

5) A long-run sustainable economy requires its establishment at a size small enough to avoid the breaching of ecological and economic capacity (especially during supply shocks such as droughts and energy shortages), efficient use of energy, materials and water, and an accelerated shift toward the use of renewable energy sources, and;

Hard to argue with. I think many environmental economists make similar arguments.

6) A sustainable economy supports economic development, a qualitative process in which human welfare is increased through strategic changes in the relative prominence of economic sectors and techniques. ;

Am I to read this as 'big business bad?" I get that feeling.

7) While establishing a sustainable economy, it would be advisable for the U.S. to assist other nations in moving from the goal of economic growth to the goal of a sustainable economy, beginning with those nations currently enjoying adequate per capita consumption, and;

Umm...don't we get in trouble for things like this? Sorry I'll lean back to the left now.

8) For many nations with widespread poverty, increasing per capita consumption though economic growth and often via more equitable distributions of wealth remains an appropriate goal. ;

So only poor nations should target economic growth? Doesn't that put them in the exact same place as we are now? Why advocate policies for poor countries that you argue caused the mess we're in in the first place? Doesn't seem to follow. Why not advocate policies for sustainable development and growth in ALL countries?

In short, I think there are very few things on this list that I disagree with. Does that make me an ecological economist? Probably, but no more so than most ecological economists are environmental economists. I'm not saying there aren't differences in the ways we think about the economic-ecosystem interaction, but that's why we have discourse and why John and I welcome sites like Ecological Economics.