Thursday, May 31, 2007

The Prime Minister's Task Group on Emissions Trading

The Prime Minister’s Task Group on Emissions Trading gives its report to the PM today and is expected to recommend the introduction of a national emissions trading scheme in Australia.

I have been pretty sceptical about the taskgroup, given its membership: of the twelve members, five are from within the government, three are from mining / resources companies, one is from a power company, two are from heavy energy users (aluminium and airline companies). Only one (from National Australia Bank) is not from a heavy greenhouse-gas-emitting company. There are no representatives from outside government or big business and no businesses that would have an interest in a strong trading scheme (eg, insurers, agriculture, tourism, renewable energy).

The group is also repeating work that has been done pretty thoroughly already: the National Emissions Trading Taskforce was established by the Australian states and territories in January 2004. It presented key design propositions for a successful trading scheme later in 2004, issued a background paper and undertook public consultation in 2005, and presented a proposed trading scheme in August last year. As far as I’m aware, the federal government declined to have any involvement in the NETT process. The states and territories have committed to a national state-based scheme by 2010 if the federal government fails to introduce its own national scheme.

And the terms of reference themselves seem to suggest the result:

Australia enjoys major competitive advantages through the possession of large reserves of fossil fuels and uranium. In assessing Australia's further contribution to reducing greenhouse gas emissions, these advantages must be preserved.

Against this background the Task Group will be asked to advise on the nature and design of a workable global emissions trading system in which Australia would be able to participate. The Task Group will advise and report on additional steps that might be taken, in Australia, consistent with the goal of establishing such a system.

Nevertheless, the media are tipping that the taskforce will recommend a national trading scheme. If so, it’s remarkable that the government lags behind even the most reactionary businesses with the most to lose from action on climate change. Why does the PM have to wait until even coal miners and electricity generators call for some action on climate change?

Clive Hamilton has an article today suggesting 7 tests for a decent trading system, which I think are pretty sensible. In summary they are:

1. Comprehensive coverage of the main emissions sources.
2. A clear target.
3. No loopholes. (Hamilton reckons there shouldn’t be offsets or credits from actions like planting trees. I disagree, but the challenge is ensuring that offsets are genuine and robust.)
4. Permits should be auctioned, not handed out to existing big polluters for free.
5. It should be able to link in with foreign schemes.
6. Allow the market to work unconstrained.
7. Ensure medium-term economic certainty (ie, fixed emissions caps) but longer-term flexibility to adjust caps if necessary.

We should see the report later today or tomorrow – it will be interesting to see what it says. The PM will apparently respond on Sunday. The opposition has attempted to steal the PM's thunder by issuing its own policies today (including a national emissions trading scheme by 2010 coupled with a mandatory renewable energy target) – they are mostly pretty good but I’m not sure there’s anything new there they haven’t announced before.

Thursday, May 17, 2007

Live Earth tickets on sale tomorrow (Australia)

You've probably heard about the Live Earth concerts around the world on 7/7/07 to "engage people on a mass scale to combat our climate crisis".

Tickets for the Australian show in Sydney go on sale tomorrow morning at 9 am. $99 including public transport to the show. The line-up looks really good.

Vincenze has alerted me to an unofficial Live Earth blog which is quite interesting too, with news and gossip on the concerts (plus some serious environmental news).
Update: Tickets are sold out but I have a couple of spare tickets to the Sydney Live Earth concert if you missed out - drop me a line asap!

Tuesday, May 15, 2007

More on weather markets and climate change

I wrote a couple of weeks ago about the possbility of long-term weather markets helping us to understand and prepare for climate change.

I've since found a smattering of information on this topic elsewhere, although not as much as I'd expect given the large amount of information on on prediction (or betting) markets for things like elections.

Some resources are:
  • Wandering a bit off-topic but a conceptually similar operational hurricane futures market allows meteorology researchers and students to invest real money ($5.00 - $500.00) in securities whose payoffs depend on where a given hurricane makes its first landfall. The prices of these securities is then used to forecast where a hurricane will actually land.
Also, on the subject of prediction markets, a number of prominent economists have advocated some changes to US online gambling laws to ensure that useful prediction markets can operate legally. The authors made these observations about the usefulness of prediction markets:
Prediction markets have already been used in a variety of contexts with remarkable success. For example, prices of economic derivatives predict economic variables better than professional economists; prices in Iowa political markets are typically more accurate than the polls in forecasting elections; and prediction markets at Hewlett-Packard Labs beat official forecasts of printer sales most of the time.

Prediction markets reflect an old thought that underlies the price system: Information is widely dispersed in society, and it is highly desirable to find a mechanism to collect and aggregate that information. These markets work for several reasons: First, almost anyone can participate. Second, people think hard when they have to back up their predictions with money; buy the right presidential contract and you win, buy the wrong one and you lose. Third, the profit motive encourages people to look for better information.

I'll keep following this theme on the blog. It seems to me that even a small betting market on long term temperatures (or associated climatic changes) could be a very cheap way to improve our understanding of climate change risks.

Wednesday, May 09, 2007

Oikos 101: Price elasticities

Welcome to the first in what I intend to be a regular series: Oikos 101.

Here I’ll attempt to explain useful economic, ecological or environmental policy concepts in a way that’s simple but still accurate. (If it’s not simple or is inaccurate, please let me know).

I’ll then use these concepts in future posts without the need to explain them each time.

The first concept is an important one in economics: price elasticity.

Elasticity generally is a measure of responsiveness: how much one variable changes when another variable changes. The more “elastic” something is, the more responsive it is. Two important elasticities in economics are the price elasticity of demand and the price elasticity of supply.

When the price of something goes up, the quantity that consumers demand generally goes down. If McDonalds doubled the price of its Big Macs, people would by fewer Big Macs. (Some would switch to Whoppers, some would cut back from two Big Macs for lunch to one, some would decide it’s finally time to take their own sandwiches to work, etc etc). The price elasticity of demand refers to how much the quantity demanded changes as price changes.

Different goods have different price elasticities. Some things are easy to avoid or substitute for. When the price of bananas shot up in Australia after Cyclone Larry devastated Queensland banana plantations last year, people mostly bought other fruit or just ate less fruit. We can describe demand for these sorts of items as price-elastic or just elastic. (The quantity demanded is quite responsive or sensitive to changes in price). Other things are difficult to avoid or substitute for. If the price of cigarettes increased suddenly, some people would quit or smoke less, but many would not change their habits much. Demand for cigarettes is relatively inelastic. (The quantity demanded is quite unresponsive or not sensitive to changes in price).

We can also look at the price elasticity of supply. Again, let’s look at bananas in the aftermath of Cyclone Larry. The price that producers could get for their bananas rose substantially, but it takes a while for bananas to grow. So in the short term, growers couldn’t take advantage of the high prices by supplying extra bananas. Perhaps some overseas producers could ship more bananas to Australia. But many overseas producers are prevented from selling bananas to Australia because of Australia’s strict quarantine laws. So, in the short term, supply was not very responsive even to the much higher prices: we would say it was inelastic.

It’s also important to note that the elasticity of a good depends on the price of that good. Imagine petrol is so cheap that it costs me only $10 to fill the tank of my car. If the price increases by 50% to $15 a tank, I still probably won’t cut back on my driving very much. However, if the price of petrol meant that it cost me $50 to fill the tank and it then rose by 50%, that change would have a much larger impact on my consumption. So at low prices, petrol is highly inelastic (it’s so cheap that even if you double the price I’ll still buy almost as much) but at high prices it’s elastic (I’m already near breaking point, if the price doubles I’ll buy much less – I might even sell my car).

Looking at elasticity of their products is important for businesses (will I lose many sales if I put the price up?) but elasticity is also useful for looking at a number of environmental and economic policy issues. So, for example, if we want to reduce water use and we’re thinking about water restrictions versus an increase in water charges, we might want to know how elastic the demand for water is. If it’s highly inelastic, so that consumption will not respond much to price increases, we could conclude that modest price increases aren’t going to be very effective: we’ll need to look either at substantial price increases or other measures such as water restrictions.

More info:
Other Oikos posts that use the concept of elasticity:

Tuesday, May 08, 2007

Will climate change get a run in tonight's budget?

Federal Treasurer Peter Costello hands down his 10th(?) budget tonight. Will climate change get a mention?

Not much, according to the budget 'leaks' so far: there seems to be an extension to the solar rebate and little else.

Anyway, have a punt at the Greenpeace website on how many mentions there will be and win a solar backpack. The competition closes at 5pm.

HT: Solidariti

Thursday, May 03, 2007

Could long-term weather markets help us understand the risks of climate change?

Markets are good at aggregating information. When individuals - each acting according to their own personal preferences, ideas and knowledge - interact in a market, the market price that is set for a commodity reflects society’s best guess about the commodity's value. For example, shares in Telstra can (probably) be bought and sold by Telstra employees, share market analysts, Telstra’s competitors and customers, telecom regulators (maybe), directors of overseas telco companies, etc etc. Each of these individuals has their own thoughts, based on their own expertise, of Telstra’s business and prospects. The resulting share price reflects a consensus on Telstra’s value.

To put it another way:

When individuals make economic decisions based on diverse sources of information, market aggregates – such as prices – will to a greater or lesser extent reflect the pieces of information received. By observing a market aggregate, each person may learn something about the information possessed by others. In some cases, enough information is reflected to induce everyone to agree on a consensus estimate of the relevant uncertainty. This theme has been extensively explored in the literature on rational expectations.
Another example: individual punters at a horse race may have particularly good knowledge of one or more of the horses in the race (how fit they are, what sort of conditions they like), the jockeys, the track, etc. When combined, they give odds which represent the betting community’s best estimate of the probabilities of each horse winning, distilled from this dispersed information.

The odds in these sorts of betting markets give a good indication of future events. For example, economists Andrew Leigh and Justin Wolfers have found that election betting markets are good at picking election results, and certainly better than polls on intended voting behaviour (papers here and here).

I don’t know much about the economics of betting markets but I was intrigued by this well-defined bet on future global temperature change between a climate change ‘believer’ and a ‘sceptic’:
We have three bet periods -10, 15, and 20 years - and two bets for each period - an even-odds bet and a 2:1 bet in David's favor. The even-odds bet centers around a temperature increase rate of 0.15C/decade with a 0.02 void margin on either side (bet voids if temps increase between .13 and .17C/decade). The 2:1 bet centers on 0.1C/decade with a .01 void margin. Even-odds bets are for $1,000 each, and the 2:1 bets increase over time, with me betting $1,000, $2,000 and $3,000, and David betting half that. My exposure is $9,000; his is $6,000.

So I was thinking: What if someone set up some decent markets in future global temperatures? Anyone would then be free to bet on how much climate change they expect in the future. There are already weather markets for short-term weather events, so it shouldn’t be too much of a stretch.

I can think of a number of benefits:

  • It would give an independent estimate of likely magnitude of climate change based on individual scientists, companies, individuals, etc all betting on how much they think temperatures would rise by based on their understanding of climate change science. This would be very valuable to guide government policy and private sector decisions.
  • Some people have criticised the scientific integrity of the Intergovernmental Panel on Climate Change (IPCC) estimates of climate change because they are based on consensus and therefore ‘political’ and biased. There could be no such criticism of this process – people would be acting independently and putting up their own money.
  • Climate change sceptics (and believers) could put their money where their mouth is: if they’re so convinced that we’re not at risk from climate change, they could make a motza. (And it would test the claims from some quarters that this is some sort of vast left-wing conspiracy).
  • There would be incentives to invest in climate change research, as people could make money from it: if you understand the likely future climate better than (or before) everyone else, you can make money on the markets.
  • People could use it to hedge or insure their exposure to climate change impacts. For example, say the market assesses the chance of very large temperature rises of 5 degrees in the next 50 years is 1 in 1000 and so I can make a bet on that level of change that pays 1000 to 1. Now, if I own a beachside house that will be ruined by sea level rises associated with a temperature increase in that range, I could bet say $1000 now that temperatures won’t rise by 5 degrees in the next 50 years. If they don’t rise that much, I’ve only lost $1,000. If they do rise that much, I can use my $1 million to buy a new house. Ski resorts could hedge some of the risk of declining snowfalls from higher temperatures. This could be helpful to all sorts of businesses, especially insurance companies, helping them to assess risks and cover them.

Wouldn’t a government or financial institution be providing an enormously helpful (and potentially profitable) service by setting up such a market?

Tuesday, May 01, 2007

John Howard’s climate policy: Que sera, sera

When the federal opposition announced a target last week of reducing Australia’s emissions by 60% by 2050, John Howard described it as “crazy”:

"You've got this ridiculous situation where the Greens are advocating an 80 per cent cut by 2050, the Labor Party is only slightly less radical at 60 per cent by 2050," Mr Howard told ABC radio.

"Neither the Greens or the Labor Party has any idea of what that will do to jobs. I think it is crazy and irresponsible of any political party in this country to commit to a target when you don't know the impact of the target."
The target is based on the scientific reality (or at least our best current understanding of it) that 60% is the absolute minimum emission reduction required by 2050 in order to stabilise the concentration of carbon dioxide at a level which minimises the risk of severe climate impacts:

Although the pursuit of emissions reductions of 60% or more cannot be translated directly into a specific stabilisation target, this emissions target does have its origins in the analysis of different stabilisation pathways, particularly the 550 ppmv stabilisation target which… is roughly the upper limit for atmospheric GHG [greenhouse gas] concentrations that avoid DAI [dangerous adverse impacts]…

Despite the precedence for the use of 550 ppmv as benchmark for estimating GHG emission reductions necessary to avoid DAI, it is clear from the range of proposed thresholds… that even this threshold is considered too high by some experts. Carbon dioxide and CO2e concentration thresholds well below 550 ppmv frequently have been recommended…

…the goal of Annex I [developed country] emissions reductions of 60% by 2050 may be considered a minimum estimate of the effort needed to achieve stabilisation to avoid DAI.
(CSIRO, pdf here [see pages 17-18], my emphasis).

And it’s not dissimilar to the target suggested by the federal government’s own Chief Scientist three years ago:
Fresh from defending himself against allegations of a conflict of interest [over his dual roles as Australia’s Chief Scientist and chief technologist for mining company Rio Tinto], the Chief Scientist, Robin Batterham, said Australia must halve its greenhouse gas emissions by 2050.

Talk of such a target by the Federal Government's most senior scientific authority is in stark contrast to the recently released white paper on energy policy which broadly supported Australia's continuing use of fossil fuels, a major source of man-made greenhouse gases.

Dr Batterham said he supported the Federal Government's decision not to ratify the Kyoto protocol on climate change because the reductions it set were not high enough.

"I'm talking about enormous reductions - 80 per cent by the end of the century," Dr Batterham said. "Fifty per cent by 2050, I think, is realistic."
Of course, it's not true that we have no idea of the economic impact of these proposed targets (more on that tomorrow). But the more important point is this: any target has costs and benefits. The costs are obvious and are what the government has focussed on: higher energy prices and resulting lower profits and job losses in fossil fuel industries. The benefits are more dispersed: jobs and earnings in renewable energy, indirect benefits of policies to reduce energy waste (better energy efficiency, more economically efficient transport, and reduced air pollution), credibility in the global debate on climate change and, the biggie, reduced risk and severity of adverse climate change.

If you don’t set a formal target, you’re simply setting a target by default: a target of emissions increases. This unstated target has costs as much as a stated target does. If setting a target based on an incomplete knowledge of all the costs and benefits – a ‘best guess’ target – is irresponsible, how much more irresponsible is not setting a target at all – just letting whatever may happen happen? Is that any way to decide policy?