Planetary Economics Energy, Climate Change and the Three Domains of - - PowerPoint PPT Presentation

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Michael Grubb

With Jean-Charles Hourcade and Karsten Neuhoff

Routledge/Taylor & Frances, Published March 2014

Energy, Climate Change and the Three Domains of Sustainable Development

Planetary Economics

http://www.routledge.com/books/details/9780415518826/

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

• Nature of the energy challenge
• The Three Domains and Three Pillars of Policy
• System key components
• Pillar I: Standards and Engagement
• Pillar II: Markets and Pricing
• Pillar III: Strategic investment
• Growth theory and macroeconomic linkages
• Policy Integration
• Joint Benefits
• The Economics of Changing course

An integrated approach to Energy Transition

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

The energy challenge of decarbonisation

Global energy efficiency Global carbon intensity

0.5 1 1.5 2 2.5 3 2.5 5 7.5 10 12.5 15 17.5 Energy Productivity (GDP/Energy bn$2000/Mtoe) Historical Decarbonisation/Energy Productivity 20% by 50% by 2050 Global emissions reduction below 1990 level 1980 1990 2010 Combination needed for percentage emissions reduction Possible future paths Historic average: 1.3%/yr Decarbonisation (CO2/Energy MtCO2/Mtoe)

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

0.5 1 1.5 2 2.5 3 China Russia Japan EU 15 Australia EU New India USA World

Figure 1.6 Trends in carbon intensity, by region and globally from 1980‐2008

Source: Authors. Data from IEA (2010) and World Bank (2011)

Carbon intensity has fallen but countries remain at widely varying levels

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

5 10 15 20 25 5,000 10,000 15,000 20,000 25,000 30,000 35,000 40,000

CO2 emissions tonnes per capita (tCO2) – World Bank GDP per capita PPP ($bn 2000)

USA Australia UK Russian Federation India Brazil China France Germany Japan Korean Canada Poland Figure 1.7 Per‐capita CO2 emission trends in relation to wealth ‐ trends of major countries from1990‐2008

Data from World Bank (2011) and IEA (2010)

… last few decades, largely stable per-capita emissions in industrialised countries with little sign of convergence

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

• The proportion of national income spent on energy

has remained surprisingly constant

• for more than a century
• for most countries
• Despite huge variations in energy prices (Bashmakov)
• This cannot be explained through the classical

measures of in-country consumer price response (elasticities) but needs also to invoke:

– Energy efficiency regulation and related policy responses – Innovation throughout energy supply and product chains The “Bashmakov-Newbery Constant”

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Risk Conception Basic Belief Typical Strategy Societal process Time‐scale of climate change

Indifferent

• r

disempowered Not proven, or “What you don’t know can’t hurt you” “Ignorance is bliss” Environmental group campaigns vs .resistance lobbying First few decades of climate change Tangible and attributed costs Weigh up costs and benefits Act at costs up to “social cost of carbon” Technocratic valuation and politics of pricing As impacts rise above the noise – next few decades Disruption and securitization Personal or collective security at risk, climate change as a “threat multiplier” “Containment and defence” Mitigate as much as practical and adapt to the rest Ultimately, for all (systemic and global risk) Most vulnerable, sooner, with international spillover

Prelude: three levels of risk conception ..

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

• Nature of the challenge
• The Three Domains and Three Pillars of Policy
• System key components
• Pillar I: Standards and Engagement
• Pillar II: Markets and Pricing
• Pillar III: Strategic investment
• Policy Integration
• Joint Benefits
• The Economics of Changing course

Three Domains and the Three Pillars of Sustainable Development An integrating approach to climate policy

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

• Fig. 2 ‐3 b Resource trade‐offs with the other two domains

Three Domains – an Economic Interpretation

Resource Use / Energy & Emissions Economic Output / Consumption

3rd Domain

• 1. Real-world individual

and organisational decision-making

“Transforming” behaviour “Optimising” behaviour

1st Domain

“Satisficing” behaviour

2nd Domain

• 3. Innovation &

evolution of complex systems

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

The Three Domains rest on different fields of theory that apply at different scales

Neoclassical and welfare Evolutionary and institutional

T I M E H O R I Z O N S O C I A L S C A L E

Behavioural and

• rganisational

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Cost $USD/tonne of CO2e (in Millions)

‐100 ‐80 ‐60 ‐40 ‐20 20 40 60 80 100

Estimates of Global Mitigation Costs and Potential by 2030

Annual abatement in 2030 GtCO2e Source: Planetary Economics, utilising McKinsey data from Pathways to a Low Carbon Economy (2009)

Advanced Economies Emerging Asia Rest of the World

Smarter Choices (Pillar I)

5 10 15 20 25

Choosing cleaner products and processes (Pillar II) Innovation and Infrastructure (Pillar III)

Three realms of abatement opportunities

• Global estimates for 2030 highlight first two ..

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

H M L

H Highest relevance

M Medium relevance

L Lowest relevance

Satisfice Transform Optim ise Dom ain

Standards & Engagem ent Markets & Prices Strategic I nvestm ent Sm arter choices Cleaner products & processes I nnovation & infrastructure

1 2 3

L/ M H L/ M L M H

To deliver Policy pillars

Solutions need to harness corresponding policy pillars based on the three domains, to transform energy systems

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

• Nature of the challenge
• The Three Domains and Three Pillars of Policy
• System key components
• Pillar I: Standards and Engagement
• Pillar II: Markets and Pricing
• Pillar III: Strategic investment
• Policy Integration
• Joint Benefits
• The Economics of Changing course

Three Domains and the First Pillar of Sustainable Development An integrating approach to climate policy

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

ENDUSE

Buildings and appliances Industry Transport

CHANNELS

Direct fuels and heat Electricity system Refined fuels

system

FUEL

Coal Gas Petroleum

• Fig. 3.1 a

Agriculture Landuse ,

• ther

gases

Process emissions

Emissions from fuel extraction

Energy and emission flows within the fossil fuel system

Note: The lower panel gives the numeric breakdown at each stage illustrated in the upper panel. Numbers at each step in the Chart (fuel, channel, end‐use) independently add to 100%.[ All data from the International Energy Agency, accessed through ESDS.

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

In transforming energy systems globally, all three domains are

• … approximately equally important

– Cost curve data – Difference between in-country and international elasticities – Observed policies of the most successful countries – Suggestive evidence from economic Growth Accounting & individual pillar ‘bottom up’ evidence

• .. and interdependent

– The pillars are complementary, not competing – “Any pillar on its own will fail”

But the relative importance of different measures varies across sectors and nature of co-benefits are diverse

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Risk conception / Domain Dominant scale Decision framework Field of theory Mitigation economic process Realm of

• pportunity

Pillar of policy/ response

Ignore / Satisfice Short term / local Indifferent or disempowered Behavioural & Organisational Move closer to the ‘best practice frontier’’ ‘Smarter choices’ Standards and engageme nt (Pillar I) Compensate/ Optimise Medium term / regional Costs / impacts are tangible and significant Neoclassical & welfare economics Make best trade‐offs along the frontier Substitute cleaner production & products Markets and pricing (Pillar II) Secure/ Transform Long term / global Transformatio nal risks and

• pportunities

Evolutionary & Institutional Evolve the frontier Innovation & infrastructure Strategic investment (Pillar III)

Figure 2‐6 Alignments within each domain

A key to Planetary Economics – and politics – lies in the potential to align different levels of risk conception with the different pillars of response

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

• Nature of the challenge
• The Three Domains and Three Pillars of Policy
• System key components
• Pillar I: Standards and Engagement for Smarter

Choices

• Pillar II: Markets and Pricing
• Pillar III: Strategic investment
• Policy Integration
• Joint Benefits
• The Economics of Changing course

Three Domains and the First Pillar of Sustainable Development An integrating approach to climate policy

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Energy efficiency remains controversial amongst economists

• 'the energy efficiency role in climate change policy

is based on two flawed arguments: that energy efficiency will substantially reduce general energy demand; and that there are lots of projects with positive returns. The former is hard to substantiate, the latter... is open to serious doubts and depends in any event on the price of energy...'.

• Helm (2011)

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Source: Authors, with data from McKinsey Pathways to a Low Carbon Economy (2009)

Evidence confirms potential exists across individuals and organisations and many sectors, and endless scope to argue about how ‘big and real’ it is …

Domestic buildings‐ electric Commercial buildings ‐ electric Petroleum & Gas ‐ General Commercial buildings ‐ thermal Transport ‐ Cars and vans (efficiency) Waste ‐ Landfill Cement ‐Clinker substitution Waste ‐ Other Chemicals ‐ General Iron & Steel ‐ Energy efficiency and co‐ generation Other industry Cement ‐ Alternative fuels Domestic buildings ‐ thermal

‐80 ‐70 ‐60 ‐50 ‐40 ‐30 ‐20 ‐10 5 10

Annual abatement in 2030 GtCO2e Cost $USD/tonne of CO2e

Hidden & Implement ‐ation costs

A. ECONOMIC SCEPTICISM B. BUILDINGS EXPERTS Default (inefficient) baselines & holistic solutions D. REBOUND Warmer homes, more driving with lower energy costs

• C. CO‐

BENEFITS Health, energy subsidies, environmen tal benefits

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Only about a quarter of recommended measures which take longer than a year to pay back were implemented by the time of follow‐up survey, and the proportion implemented varies little for longer payback times.

Figure 4‐4 Proportion of Carbon Trust recommendations to UK business implemented: dependence on pay‐back period

Note: The graph shows combined responses of public, services, retail and chemical sector regarding recommendations identified in 2006-2007. Source: Source: Carbon Trust, based on Carbon Management/Energy Efficiency Advice Close-out database (personal communication)

… valuable progress made but still big potentials

even for corporate energy use…

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Figure 5‐1 EU Energy Efficiency Labels (a), and (b) market share of appliances in Europe over time since introducing labels

Source: IPCC (2007) and European Commission (2010)

Policies have had a huge impact in specific product markets

• Example of EU refrigeration response to labels + standards

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Figure 5‐7 Long‐term energy savings from efficiency improvements of all sectors

Sources:(IEA 2008). Note: The estimation is based on data from 11 IEA countries (Australia, Denmark, Finland, France, Germany, Italy, Japan, Norway, Sweden, the UK, and the US).

… but aggregate impact insufficient to halt increasing demand across IEA countries in aggregate, and slowed after 1990 ..

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Figure 5‐11 Embodied energy in buildings

Source: Allwood and Cullen (2012)

But in both buildings & vehicles, balance is moving towards embodied energy

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Consumer-driven energy & emissions

Use Embodied Efficiency of Stock

Buildings Industry

Transport

• Insulation
• Integrated heating

and cooling system.

• Efficient appliances

incorporated

• Efficiency of

machinery used

• Modes of

transporting goods incorporated

• Vehicle efficiency
• Avoid dripping

taps or showers dripping

• Closing windows

while heating or cooling system is

• perating
• Avoid dripping

taps or showers dripping

• Efficient use of

materials

• Heat cascading
• Maintenance
• Mode of

transport

• Tyre pressure
• Maintenance.
• Surrounding

infrastructure

• Construction

materials

• Construction and

transport

• Surrounding

infrastructure mines, pipelines

• Raw materials used:

extraction, transport and processing

• Leakage from

mines, pipelines

• Raw materials in

vehicle construction

• Vehicle disposal

Figure 5‐10 The scope of consumer‐driven emissions

Note that these categorisations of the consumers’ part are not entirely independent of one another. For example the emissions from the industrial process make up the embodied emissions of consumer goods and services. Source: Authors

Taking energy / resource efficiency much further is likely to require digging into dimensions of use and embodied energy

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

• Nature of the challenge
• The Three Domains and Three Pillars of Policy
• System key components
• Pillar I: Standards and Engagement
• Pillar II: Markets and Pricing for cleaner products

and processes

• Pillar III: Strategic investment
• Policy Integration
• Joint Benefits
• The Economics of Changing course

Three Domains and the Second Pillar of Sustainable Development An integrating approach to climate policy

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Australia Czech Republic France

Germany

Hungary Italy Japan Korea Netherlands Poland Slovak Republic Sweden UK USA 100 200 300 400 500 600 700 800 900 1000 0.05 0.1 0.15 0.2 0.25 0.3 0.35 0.4 0.45 0.5

A A 2 5 GD GDP

• EU 15

Figure 6‐1 The most important diagram in energy economics Note: The graph plots average energy intensity against average energy prices (1990‐2005) for a range of prices. The dotted line shows the line of constant energy expenditure (intensity x price) per unit GDP over the period Source: After Newbery (2003), with updated data from International Energy Agency and EU KLEMS

Prices Matter!

National energy intensity approx inversely proportional to long-run prices

• across countries the % of GDP spent on energy is remarkably constant

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

‐20 ‐10 10 20 30 40 50 60 70 80

Estimates of Global Mitigation Potential 2030

10 15

Advanced Economies Emerging Asia Rest of the World

Annual abatement in 2030 GtCO2e

Figure 6.5 Abatement options in the Second Domain

Raw data Source: McKinsey data from Pathways to a Low Carbon Economy (2009)

Chemicals -

5 Cost $USD/tonne of CO2e (in Millions)

Other Industry Iron & Steel – energy efficiency and co-generation Other Industry

Power - small hydro Power – shift of coal new builds to increased gas

Other Industry

Cement – alternative fuels Chemicals - general

Chemicals - general

Power – small hydro Power - nuclear Power - nuclear Power –

• nshore wind

Power - solar Power –

• ffshore

wind Power - solar Power - nuclear Power – biomass CCS and co-firing Power – onshore wind Power - solar Iron & Steel – process changes Power –

• ffshore

wind Power – Coal CCS Power – biomass CCS and co-firing Power – Coal CCS Power – biomass CCS and co-firing

Industrial CCS

Power – Gas CCS ‘Pillar II’ opportunities dominated by substitution in production – mainly low carbon power generation – ie. investment choices by large companies determined by market structure and perceived risks and relative prices

Carbon-related prices matter especially for decarbonising elec & industry

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

ETS (42%) Non- ETS (58%)

Figure 7‐1 Coverage of the EU ETS

Note: The darker shaded countries are those participating in the EU ETS. The bar shows the distribution of verified emissions over 2005‐8 between the different sectors covered under the EU ETS

Raw data Source: European Commission and Ecofys (2009)

The European Emissions Cap-and-Trade system (EU ETS) – the first and by far the biggest attempt to put a price on CO2

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

5 10 15 20 25 30 35

Dez/ 04 Apr/ 05 Aug/ 05 Dez/ 05 Apr/ 06 Aug/ 06 Dez/ 06 Apr/ 07 Aug/ 07 Dez/ 07 Apr/ 08 Aug/ 08 Dez/ 08 Apr/ 09 Aug/ 09 Dez/ 09 Apr/ 10 Aug/ 10 Dez/ 10 Apr/ 11 Aug/ 11 Dez/ 11 Apr/ 12 Aug/ 12 Dez/ 12 Apr/ 13

European CO2 price Phase I European CO2 price Phase II European CO2 price Phase III EUR/t

(a)

Fig.7.2 Evolution of European carbon and international offset prices

Data Source: European Climate Exchange

Evolution of the EU CO2 (spot) price

Murphy’s law: “If anything can go wrong, it will”

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Carbon Abatement

Damage costs are highly uncertain but not sensitive to emissions

• ver a short period

Mitigation costs are uncertain and flatten over time

CO2 Emissions Cost Near Term Outlook

Short term: bound the price

Fig.6.6a

Classic argument on price vs quantity instruments (i) in the short term, fix the price

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

CO2 Abatement

Damage costs are highly uncertain but risks rise steeply with cumulative emissions Mitigation costs are uncertain, but far more scope for deep reductions in long term (“flatter”)

CO2 Emissions

Long term: target safe quantity

Fig.6.6b Figure 6‐6 Stylised benefits and costs of cutting emissions: implications for ‘tax or cap’?

Cost

Classic argument on price vs quantity instruments

(ii) in the long term, fix a safe quantity

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

CO2 Price CO2 emissions The price

• where

the lines cross- may be very sensitive to errors

• r

changes in underlying demand curve

Emissions cap: supply of emission allowances in a given period is fixed

Figure 7‐5 Source of price instability in an emissions trading system

I nitial assum ptions on emission trends and abatement costs tend to be conservative and to underestim ate uncertainties

Real-world experience has confirmed the wisdom … with added twists

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

CO2 Price

Figure 7‐7 a. Impact of emissions banking on carbon price in emissions trading system

Collapse of confidence – a short term view Declining but unstable price based on future expectations Theoretical value on long term view

CO2 emissions

Emissions banking ‘flattens the demand curve’ (cf Fig 7.5) by extending time horizon

Emissions banking supposed to be answer .. but is only stable within a certain range, otherwise amplifies risks

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Price stabilisation mechanisms therefore essential for credibility – and also for linkages to other domains

Figure 7‐8 Steadying mechanisms for emissions trading systems

Note: The Figure illustrates mechanisms to help emissions cap‐and‐trade systems deal with deep uncertainties , so as to maintain a reasonable balance of price and quantity objectives. The mechanisms are most simply illustrated with respect to price floors and ceilings, in which case the shaded area indicates the likely region of price and quantity for a system with substantial surplus

• allowances. However the same principle could apply to other ‘threshold’ triggers, for example based on the level of cumulative

surplus.

CO2 Price or related index Emissions Volume

Withheld allowances returned

Cap alleviated

Allowances withheld at floor Additional allowances withdrawn

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

10 20 30 40 50 60 Costs / GVA %

41% of EU ‘value added’ (GDP) in manufacturing industry + utilities

Motor vehicles (0.6) Other manufacturing (0.09%) Construction (0.01%)

Mining and Quarrying (0.02%)

10 20 30 40 50 60 70 80 90 100

The Big Six

Lime Cement

Coke Oven Fertilisers and Nitrogen Refined petroleum Basic Iron and Steel Aluminium Production Other inorganic basic chemicals Paper

Most of manufacturing emissions are from

• c. 2 % ‘value added’ of EU GDP

Figure 8‐4 Impact of carbon pricing on EU industry sectors and their share of the EU economy

Data source: Eurostat and EU Commission

Who’s hit? In industry – c. half a dozen primary commodity sectors

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Cost pass through

Free allocation Free allocation

% of allowances received for free

Example of Blast Furnace Steel @ €30/tCO2

Increased profit Reduced profit 20% 100%

% of allowances received for free

0% 90%

Profit Margin

0% 5% 10% 15%

End user price increase

CURRENT PROFIT MARGIN

5% 10% 15% 0% Figure 8‐1 Profit and loss depend on the combination of free allocation and cost pass through to final products

Note: the numbers on the graph correspond to one of the most carbon –intensive products, namely steel in Europe, at a carbon price of €20/tCO2, before international effects.

Distributional impacts 1: Up- or mid-stream, winners and losers depend on allocation and market structure

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Cost of Carbon

Increased costs for ETS companies Price rises for ETS sector products Desired result – supply side

Product substitution and demand reduction

Substitute low carbon products developed Reduced emissions

Desired result – demand side

Profitability of emissions reducing actions improved

Low carbon technology developed Reduced emissions

Impacts on trade patterns and competitiveness Reduced investment in factories in ETS - Fewer jobs in ETS region Reduced

• peration in ETS

– Increased production and emissions

• utside ETS

Undesirable side-effects Price pass through

Cost of Carbon

Increased costs for ETS companies Price rises for ETS sector products Desired result – supply side

Product substitution and demand reduction

Substitute low carbon products developed Reduced emissions

Desired result – demand side

Profitability of emissions reducing actions improved

Low carbon technology developed Reduced emissions

Impacts on trade patterns and competitiveness Reduced investment in factories in ETS - Fewer jobs in ETS region Reduced

• peration in ETS

– Increased production and emissions

• utside ETS

Undesirable side-effects Price pass through

Figure 8‐2 Desirable and undesirable effects of carbon prices

Source: Adapted from Carbon Trust (2010)

Carbon pricing has benefits on both supply and demand side – the ‘carbon leakage’ problem lies in seeking both …

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Price with carbon cost Price without carbon cost ETS ETS ETS

Rest of World Rest of World Rest of World

Adjust costs downwards

Conditional allocation

Adjust costs at border

Border Adjustments

Adjust global costs upwards

Global carbon pricing

Imports into ETS Exports from ETS

Price with carbon cost Price without carbon cost ETS ETS ETS

Rest of World Rest of World Rest of World

Adjust costs downwards

Conditional allocation

Adjust costs at border

Border Adjustments

Adjust global costs upwards

Global carbon pricing

Imports into ETS Exports from ETS

Figure 8‐5 Options for tackling leakage

Source: Adapted from Neuhoff 2008

… a problem to which there are only three types of responses ..

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

5 10 15 20 25 30 Poorest 20% Middle Richest 20% Other Fuels Gas Electricity 1 2 3 4 5 6 7 8 9 Poorest 20% Middle Richest 20% Other Fuels Gas

Average household £ per week

% of household income

Figure 8‐7 Household expenditure on energy UK 2008

Source: Office of National Statistics 2009.

.. downstream the direct impacts are ‘all losers’ and regressive: ‘bills constancy’ hinges on the other Pillars

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Pillar II Conclusions

• Too much ‘looking under the lamppost’
• The economics of carbon pricing are as much

about design and strategic credibility than level

• The politics of carbon pricing are driven by

distributional impacts and the lack of clearly articulated positive narrative for either industry or consumers

• Links to the other two domains are central to any

‘tangible’ positive narrative, drawing on ‘Bashmakov’s Constant of Energy Expenditure’

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

• Nature of the challenge
• The Three Domains and Three Pillars of Policy
• System key components
• Pillar I: Standards and Engagement
• Pillar II: Markets and Pricing
• Pillar III: Strategic investment for Innovation and

Infrastructure

• Policy Integration
• Joint Benefits
• The Economics of Changing course

Three Domains and the Third Pillar of Sustainable Development An integrating approach to climate policy

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Fig.9.1 Immediate costs and future benefits of low carbon technology

From II to III: Clean tech innovation and benefits

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge 2 4 6 8 10 12 14 16

Fig.9.3 R&D expenditure by top companies in different sectors as % of sales, 2011

Data source: EU Joint Research Centre on Industrial Investment and Innovation, R&D Scoreboard 2012, http://iri.jrc.europa.eu/scoreboard12.html

We are seeking radical innovation in some of the least innovative sectors of our economies

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Diffusion POLICY ENVIRONMENT ‐ tax incentives, subsidies, emissions pricing, regulations

Supply/ Research Demand/ Consumers Framework Conditions – Macroeconomic Stability, Education & Skills, IP Protection Etc.

Market accumul ation Commercial

• isation

Demon- stration Applied R&D Basic Research Product/ Technology Push Market Pull

Fig.9.5 The Innovation Chain

“Invention” “Innovation” “Diffusion”

Technologies have to traverse a long, expensive and risky chain of innovation to get from idea to market

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

INVENTION DIFFUSION

Highly innovating, close connection consumers and innovators ‐ 1st & 3rd Domains – R&D intensity 5‐15% (eg. IT, drugs)

INNOVATION

Moderate innovation, mostly business to business connection ‐ 2nd & 3rd Domains ‐ R&D intensity 1‐5% (eg. industrial & product engineering) Low innovation, little connection between innovators and markets R&D intensity < 1% (eg. energy & construction) Market pull

Technology push Market pull

Technology push

Market pull Technology push Technology Valley of Death

Market pull

Figure 9.7. Innovation intensity and the broken chain

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Energy & related sectors are ‘complex sociotechnical systems’, with big evolutionary & lock-in characteristics

• Progress in clean energy industries impressive,

but heavily dependent on public policy

• .. and so far outweighed by ‘carbon entanglement’
• Consider response to oil price rises
• .. and study the policy implications of evolutionary

economics:

– Niche accumulation – Hybridisation strategies

• Industrial strategy is unavoidable
• … with the potential positive side being

macroeconomic version of “Porter’s kick”

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Transformation involves not just technologies but sectors – is possible, but complex

Three key “case studies”

• Transport in the Americas
• Electricity in Europe
• Urbanisation in Asia

The systems themselves also become more integrated

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Global energy costs Annual global emissions

Time

‘Green’ futures

• Integrated energy system
• Biomass and electricity in transport
• Low‐carbon electricity
• High capital costs….
• ……but low operating costs

‘Brown’ futures

• Continued dependence on fossil fuels
• Unconventional and synthetic oil in

transport

• Low capital costs…
• …but high operating costs and a host of

environmental issues beyond carbon

Number of potential energy futures near ‘minimum’ cost Low Carbon High Carbon

Clustering of ‘low cost’ energy futures around higher and lower emissions, rather than in the middle, reflects divergent responses to depletion of ‘easy oil’

We are here

Figure 10-6: Two kinds of energy future – the carbon divide Source: Upper panel: Gritsevskyi and Nakićenović (2000); lower panel: authors

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Some suggestive alignment of Three Domains with structure of the WEF Global Competitiveness Index …

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

The Three Domains also link to debates about macroeconomic growth

• Neoclassical economic growth models have consistently found a

‘residual’ accounting for typically half of observed economic growth that cannot be explained by resource and capital accumulation (Ch.11 the “Dark Matter” of growth)

• Economic research points two broad explanatory areas:

– Reducing suboptimal performance of many economic actors and structures

– Education, infrastructure and innovation

• ie. First and Third domain processes are recognised as important for

macroeconomic growth. Yet these remain

– largely absent in global (or national) modelling – poorly charted in policy

• Energy is a particularly strong candidate because

– Pervasive input to numerous production sectors – Fossil fuel markets are intrinsically unstable – Exceptionally low rates of innovation particularly electricity & construction

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Macro modelling : Global GDP in mid Century has little or nothing to do with global mitigation …

Figure 11.4 Gross World Product in 2050 (excluding environmental benefits) from a wide range of models Source: Energy Modelling Forum (2009). MF22 Database: Climate Change Control Scenarios. Available from: http://emf.stanford.edu/events/emf_briefing_on_climate_policy_scenarios_us_domestic_and_international_policy_architectures/

20 GtCO2 = halving of global CO2 emissions by mid Century

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

• Nature of the challenge
• The Three Domains and Three Pillars of Policy
• System key components
• Pillar I: Standards and Engagement
• Pillar II: Markets and Pricing
• Pillar III: Strategic investment
• Policy Integration
• Joint Benefits
• The Economics of Changing course

An integrating approach to climate policy Planetary Economics

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

• Fig. 12.3 Public and private returns in the 3 domains

Resource Use / Energy & Emissions Economic Output / Consumption

Pillar III

1. Private returns

• ften suffice – but

are not considered => Standards and engagement

Innovation and infrastructure Cleaner products and processes

Pillar I

Smarter choices

Pillar II

• 3. Public returns

(including innovation, security & environment) >> private returns => Strategic investment

Different pillars have different structures of returns -

good design of markets & pricing pillar can expand its reach

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Experience and theoretical reasoning on each pillar shows..

• There are multiple lines of evidence that in context of

transforming the global energy system over a few decades, all three domains are of comparable importance

• Only approaches that integrate across all three domains

have potential to generate ‘Green Growth’

• The dominant neoclassical ‘Second Domain’ theories

emphasise instrument (pricing) that maximises political

• pposition unless it is nested in the complementary triad
• First and Third pillar policies can (and have) delivered

multiple benefits, but ….

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

But no pillar on its own can credibly solve the problem – nor offers a politically stable basis for policy

• Energy efficiency policy on its own limited by:

– Scale of intervention required – Growing scale satisficing behaviour – …. Leading to large Rebound effects

• Pricing on its own limited by:

– Blunt nature of impacts First and Third Domain impacts – Rising political resistance to rising fuel bills – .. and competiveness concerns

• Innovation on its own limited by:

– Lack of demand pull incentives – Scale & risks of investment costs – Political failures in absence of rising market feedbacks

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Standards & Engagement Markets & Prices Strategic Investment

POLICY PILLARS Technology

• ptions &

competitiveness

Changing course requires a sustained package - the key is to integrate and synergise across all three domains

Manage bills, increase responsiveness Revenues, revealed costs, strategic value

Values, pull & preferences

Attention, products & finance

Education, access & control

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Figure 12‐4 Potential joint benefits in energy and climate policy

Pillar

Standards & engagement for Smarter Choices

Enhance efficiency, Indoor and Local health subsidy removal ..

Prices and markets for Cleaner products and processes

Stabilise investor confidence, revenues, air pollution & energy security

Strategic investment for Innovation & Infrastructure

Accelerate Innovation in weak sectors, coordinate supply chain & infrastructure

Co-Benefits Integration

Climate Policy potential to Motivate Stabilise Coordinate Finance for long‐run security efficiency growth innovation

Whilst the underpinning evidence and theory of Planetary Economics suggests several routes to ‘co-benefits’

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

• Nature of the energy challenge
• The Three Domains and Three Pillars of Policy
• System key components
• Pillar I: Standards and Engagement
• Pillar II: Markets and Pricing
• Pillar III: Strategic investment
• Growth theory and macroeconomic linkages
• The Economics of Changing course
• Policy Integration
• Joint Benefits
• The Economics of Changing course

A peek at global some implications …

• An integrated approach

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Mainstream economic models are weak in the dynamics

• f energy systems
• The vast majority of economic models assume a

cost function in relation to the degree of abatement from ‘reference projection’ at time t

• This has no underlying history

 eg. DICE equations

Inertia, pathway etc effects have been introduced through

• Capital stock lifetimes (many models)
• Endogenous technological change (increasing

numbers of models but mostly in academia)

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

A simplifying approach with links to 3 domains

• Cost may also be represented in relation to both

the degree and the rate of abatement

– First is the classical representation – Second (rate dependent) represents inertia – Ratio represents adaptability - transitional costs with enduring pathway impacts

• This enables link to the 3 domains:

– Most First Pillar gains do not reverse: they have the characteristic of regulatory or behavioural innovation which saves costs – Most Third Pillar gains do not reverse: infrastructure endures and innovation generally moves forward, not backwards

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

2025. 2040. 2055. 2070. 2085. 2100. Year 5 10 15 20 25 30 GtCyr

Annual emissions Adaptive energy system

2025. 2040. 2055. 2070. 2085. 2100. Year 1000 1500 2000 GtC

Cumulative emissions Adaptive energy system

The ‘global optimal trajectory’ is radically different for an adaptive energy system, given ‘typical’ damage & discounting assumptions

Default (reference) trajectory Default (reference) trajectory Standard (non-adaptive) Standard (non-adaptive)

• Both First and Third pillar policies – which can be broadly characterised as

regulatory and technological systems innovation – are adaptive in nature (ie. transitional cost with enduring benefit)

• A significant degree of direct response to prices may also be adaptive

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge 2010. 2025. 2040. 2055. 2070. 2085. 2100. Year 2 4 6 8 $trillion

Annual damages from climate change

‘Optimal’ effort

2010. 2025. 2040. 2055. 2070. 2085. 2100. Year 2 4 6 8 $trillion

Annual abatement cost

• For an adaptive system (characterised by transitional costs with enduring

benefits) early efforts have much higher benefit than just emission reductions

• eg. Optimal global investment c. $1trn/yr can cut annual costs (abatement +

damage) towards end of century by at least 5 times as much

Measures which steadily adjust the pathway are optimal at much higher ‘cost of carbon’

Adaptive energy system Default (reference) trajectory Standard (non-adaptive) Standard (non-adaptive) Adaptive energy system

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Key policy implication of the numerical analysis

• The value of measures which adjust the pathway is

several times that of measures which just save CO2

• Useful to think of a ’base’ carbon price as that which

can be implemented today to reflect the assumed damage of CO2 emissions

• Measures in the First and Third Domains may well

justify a “cost of carbon” well above this base carbon price

• A rising base carbon price can also enhance in

particular strategic investments & leverage long term institutional finance

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Thought for discussion: ‘First among Equals?’

• A rising base carbon price is an instrument that

contributes across all domains:

• I. Attention effect and funding for 1st Domain responses

– rising steadily enables efficiency to keep pace and stop much rise in total bills

• II. Price differential will steadily reduce use of coal in power

generation, and help to move renewables on from transitional subsidies into mainstream market

• III. Facilitates increased investment stability and funding for

innovation, infrastructure and tech transfer programmes

• Embedding in an international agreement would

enhance stability and credibility

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

H M L

H Highest relevance

M Medium relevance

L Lowest relevance

Satisfice Transform Optim ise Dom ain

Standards & Engagem ent Markets & Prices Strategic I nvestm ent Sm arter choices Cleaner products & processes I nnovation & infrastructure

1 2 3

M H M L M H

To deliver Policy pillars

Figure 2‐5 The three pillars of policy

Note: The row titles refer to the realm of opportunity, while the column headings refer to the policy pillars. The size of circles in each cell refers to the degree of relevance of the policy to each of the opportunities.

.. So that pricing spillovers get to the “M”

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Some research challenges

• Better mapping the boundaries of the relevant Domains
• Fleshing out the synergies between Pillars, and in

particular how different structures and linkages of carbon prices may help to form more stable and politically appealing packages

• Digging deeper into ‘co-benefits’ and how these vary

between regions and economic circumstances, and for different pillar designs

• The role of international cooperation in the Three Domains

and the politics of a ‘base price+’ agreement

• Exploring sensitivities and other representations of ‘the

Economics of Changing Course’

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Planetary Economics:

Energy, Climate Change and the Three Domains of Sustainable Development

Pillar 1

• Standards and engagement for smarter choice
• 3: Energy and Emissions – Technologies and Systems
• 4: Why so wasteful?
• 5: Tried and Tested – Four Decades of Energy Efficiency Policy

Pillar II

• Markets and pricing for cleaner products and processes
• 6: Pricing Pollution – of Truth and Taxes
• 7: Cap-and-trade & offsets: from idea to practice
• 8: Who’s hit? Handling the distributional impacts of carbon pricing

Pillar III

• Investment and incentives for innovation and infrastructure
• 9: Pushing further, pulling deeper
• 10: Transforming systems
• 11: The dark matter of economic growth

1. Introduction: Trapped? 2. The Three Domains

• 12. Conclusions: Changing Course

Routledge/Taylor & Frances, Published March 2014

Source: Grubb, Hourcade, and Neuhoff. (2014): Planetary Economics: energy, climate change and the three domains of sustainable development. Routledge

Planetary Economics Launch meetings, March – April 2014

Launch: Kings College, Cambridge: 10th March 2014, 6-7.30pm: Chair: Lord Martin Rees Connaught Rooms London: LSE+ Student Conference on Energy Transitions: Live Cross-University Debate on 'Planetary Economics: 11th March, 2014, 16.00-17.15. http://www.lse-energy.org/event/conference_final/ Imperial College London Grantham Institute: 'Planetary Economics': The Technology and Innovation Pillar 12th March, 2014, 17.00-18.00. Follow this link or register on http://app-uk-emailer.co.uk/1I0M-E90/s2.aspx Brussels Marriot Hotel: Eurelectric Conference: Welcoming the Commission’s 2030 proposals: High road, or low road. 13th March, 2014, 2.15 pm Visit www.eurelectric.org Geneva WTO: Advanced Course on Trade & Environment. Integrating Approaches to Energy, Environment and

• Trade. 25th March 2014. Contact: Ludivine.Tamiotti@wto.org

Policy Forum @ Institute of European Studies, Vrije Universiteit Brussels: Implications for European Energy and Climate Policy, Friday 4th April, 13.00-14.30 Deutches Institut für Wirtschaftsforschung (DIW Berlin): stabilizing policies for environment and economic growth 7th April, 2014: 12.00-2.00pm Contact: events@diw.de

• St. Catharine's College, Cambridge: Finance and the Macroeconomics of Environmental Policies 10th April, 2014,

16.00-17.15 http://www.neweconomicthinking.org/prog_10April2014.htm OECD Auditorium, Paris: 17th of April, 2014, 12.30-14.30 Public policy launch hosted by OECD Environment

• Directorate. Contact sama.altahercucci@oecd.org

See www.climatestrategies.org/events/2014-events/book.html for information and maintained register of related events.

As if you haven’t had enough … !