An Even Sterner Review: Introducing Relative Prices into the Discounting Debate

Review of Environmental Economics and Policy (Impact Factor: 2.15). 04/2008; 2(1):61-76. DOI: 10.1093/reep/rem024
Source: RePEc


By estimating that the cost of unmitigated climate damages is an order of magnitude higher than most earlier estimates, the
Stern Review on the Economics of Climate Change has had a major influence on the policy discussion on climate change. Not surprisingly, severe criticism has been levied
against the report, especially by those who claim that the Stern Review's results hinge mainly on a discount rate that is too low. While we have no strong objections to the discounting assumptions
adopted in the Stern Review, our main point in this article is that the conclusions reached in the Stern Review can be justified without using a low discount rate. We argue that nonmarket damages from climate change are probably underestimated
and that future scarcities caused by the changing composition of the economy and climate change should lead to rising relative
prices for certain goods and services. This will raise the estimated damage of climate change and modify as well as counteract
the effect of discounting. We illustrate this effect using a slightly modified version of Nordhaus's DICE model and show that
taking relative prices into account can have as large an effect on economically warranted abatement levels as a low discount

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Available from: Thomas Sterner
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    • "For this type of climate change damage a negative discount rate that reflects this increasing scarcity is more logical, as originally proposed by Fisher and Krutilla (1975). Sterner and Persson (2008) and Gollier (2010) offer additional arguments for using a lower ecological than economic discount rate. Gollier argues that the difference is determined by the distance between the ecological and the economic growth rates. "
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    ABSTRACT: An expanding branch of research has estimated the potential costs of climate change, which are often expressed as the “Social Cost of Carbon” (SCC) or the costs of an additional ton of CO2 emissions. Estimates of the SCC can be used by policy makers to evaluate climate change policies and greenhouse gas emission reduction projects by means of cost–benefit analyses (CBAs). Such analyses are complicated by the wide range of SCC values that have been reported in the literature, and the large uncertainties involved in estimating the potential economic impacts and related costs of climate change. This study presents a critical review of the reported SCC estimates by examining some neglected consequences of climate change, uncertain and extreme scenarios of climate change, the discounting of future climate change effects, the treatment of individual risk aversion, and assumptions about social welfare. In view of the many uncertainties and omissions in conventional cost–benefit analyses of climate impacts and the SCC, alternative approaches to decision-making should be considered for climate policy.
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    • "Examples of adaptive coping include migration and changing crop technology. General equilibrium effects include relative price changes and substitution responses (Sterner & Persson, 2008). Transformative adaptation, a complete revamp of a social–ecological system in order to become adaptive, would be incorporated in this model as either adaptive coping or protective adaptation. "
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    • "Different from Q1 and Q2, paths are said to represent " well-being per person — reflecting private consumption, public services, and services provided by nature. " The importance of the latter for integrated assessment models is demonstrated by (Hoel and Sterner, 2007) and (Sterner and Persson, 2008). The purpose of the second questionnaire is to see how these types of overshoots influence implicit discount rates. "
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    ABSTRACT: Climate policy recommendations differ widely because of disagreements over what discount rates to use. Disagreement reduces the impact of economic models and signals a need for improved methodology. The problem is related to the choice of intergenerational welfare functions. A first questionnaire finds that the standard welfare function (SWF) fails to capture people's dislike of overshooting and fluctuating consumption paths. A second questionnaire reveals that when very-long-term sustainability of well-being is threatened, people's implicit discount rates resemble the low estimates used by the Stern Review. An alternative welfare function (AWF) reflecting consumption growth can potentially capture the preference structure revealed in both questionnaires. This makes the AWF an interesting candidate when searching for policies for sustainable development under uncertainty. Importantly, the questionnaires demonstrate that people are able to choose among policies by inspecting time graphs of policy consequences. Thus, it is possible to circumvent the complexities and disagreements introduced by welfare functions and discounting.
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