EnviroEconomics.ca

After about a year of beavering away, the NRTEE released its final advice note today to the Minister of Environment, and more importantly all Canadians (see “>Here). This piece of work sets down some fundamental principles that Canada should follow if longer-term and deeper GHG reductions are to be pursued. While there is some great stuff in the report (and the background paper prepared by Chris Bataille and Nic Rivers and others at MKJA – contact NRTEE for a copy, it is worth it), importantly, I think the report’s greatest contribution is to bring some “street cred” to two concepts:

First, the interim report released in June introduced the concept of an emission price to the media and hence Canadians. Before the June report, the use of this term was not so widespread, but now it is more widely used by the media;

Second, with this report, the carbon tax debate is effectively launched. There is now no hiding from an economy wide carbon tax as a realistic policy choice. I suspect we will now see more discussion at the political level on this. See here for some early evidence.

I think the next important step, as I have said in the past, is to make carbon tax synonymous with “carbon tax shift”, where revenue recycling and tax shifting further other goals. But for now I am just happy the report was (finally) released and is getting such favorable press. The report has legs, and NRTEE deserves credit for having the forsight to call a spade a carbon tax.

While most of us usually ignore the footnotes, for the “Bali Roadmap”, one footnote is worth closer examination. This footnote emerged when consensus on “binding targets” was not reached and there was a need to compromise. What then emerged was an implication that industrializated nations would consider making reductions of -20% to -40% below 1990. And so this seemingly innocuous footnote will be a focus of international climate policy for some time.

With some time on my hands during this Christmas slowdown, I thought I would take a first stab at what this footnote could mean for Canadian GHG reductions, GDP and climate policy. So here goes…

To hit the least stringent Bali -25% target (implied in the footnote):

Canadian GHG emission will need to drop 48% below the BAU in 2020 from a forecast level of about 865 MT in 2020 to ~455 MT;

Carbon prices need to climb in excess of $245 in 2020 (using the CIMS energy and emissions model coupled with the macroeconomic Canadian General Equilibrium and Emissions Model (C-GEEM developed by Nic Rivers and myself)). This carbon price assumes the most economically efficient policy scenario, an economy-wide price on GHG emissions. This would most likely include cap and trade for the large emitters (50% of emissions) and a carbon tax on the remaining emission (transport, buildings and manufacturing, etc.). And yes, other regulatory standards would also be needed on transportation and buildings, and incentives to CCS and renewables;

Technology deployment will need to be massive. CCS in upstream oil would have to hit 65MT and in the electrical sector would need to be another 42MT. Grid-power renewable electricity would have to grow to account for about 20% of all electricity supplied nationally;

Fuel switching would be unprecedented: domestic coal consumption would need to virtually disappear (down 90%), low-emitting electricity would need to expand by 40%, gas consumption would drop by 40% and petroleum would drop 25%;

GDP impacts for all this could be in the order of 1.9% annually, assuming no tax shifting or recycling by the federal government and emission trading with no auctioning (i.e. permit wealth is transferred between trading entities). This drop is about equivalent to the forecast GDP growth in 2020 without climate policy (See thumb);

And to get all this done, climate policy would have to get real serious real fast. The “optimal” emissions price path that minimizes GDP losses would look very different from the current policy path. This implies that starting today, policy stringency would have to be much higher and then ramp up post-2010 (see Thumb);

While Canada needs to take action, its hard to envision the political and perhaps economic system delivering reductions of this magnitude. All this leads me to observe, yet again that the whole Bali thing may have been more surreal than real.

When the Canadian government laid down some long-term aspirational targets, many argued it was a ploy to detract from taking action in the present. At the time I thought the government should be applauded for looking beyond the next election and out to where we need to be mid-century. When we peer out that far, we can understand the breadth and depth of the change required to achieve the significant targets they announced (-20% below current in 2020 and -60 to 70% below in 2050). Importantly, looking out allowed Canada to see some risks, four of which are notable:

Delay is costly. Analysis indicates that when climate policy is delayed, it becomes more expensive later on. Simply, we are stuck with high emitting capital that is costly to convert to low emitting capital;

Delay has target attainment risk. Again, the longer you delay, the more risk there is that your high emitting capital stock can’t be switched out for lower emitting stock, and thus affordability and technological limits increase the risk that future targets can’t be obtained;

Technological change is slower. Without price certainty on carbon there is no incentive to innovate and invest in R&D. This means that new technologies may not emerge that can help later and reduce costs;

More cumulative emissions. While targets are fine carbon is a stock pollutant and with delay in action you emit more, even if targets are attained. Thus, delay results in more cumulative emissions, which is a bad thing.

With Canada’s position in Bala (see here), the underlying current, whether intentional or not, is delay. But delay on global action will end up costing everyone more and lessening environmental effectiveness. For now, I still think looking out to mid-century is a good thing. I am just wondering when a vision of the future will emerge in current climate policy.

Oh those cornucopians. Their teachings to economic grad students everywhere has led to the entrenched belief that simple constraints like environmental quality and finite resources can be solved through technological change and emerging backstop technology. For climate policy, this has led many to advocate delay in action until some radical technological breakthrough emerges to solve our climate woes. But this is bad policy. The time period for technologies to move from R&D to commercialization is long, which means that we can’t expect much before mid-century. And the sheer depth of reductions required to stabilize atmospheric carbon globally across virtually all economic sectors means that no single technology will provide the technological silver bullet.

In Canada, however, the cornucopians at least have got it partially right. Canada needs carbon capture and storage (CCS) and big oil knows it:

An alliance of 15 Canadian oilsands, chemical and power companies proposed yesterday a multi-billion-dollar plan to capture and store greenhouse gases in what would be the country’s single-largest carbon dioxide-reduction initiative. They say they are willing to pay their part — billions, in fact — to get this off the ground. It’s time for governments to do theirs — with the same urgency and conviction with which they embraced the green agenda or, in the case of Alberta, demanded a bigger share of the oils ands’ industry by jacking up royalties.

Recent analysis completed (by MKJA and myself) using the CIMS national energy and emissions model indicates that CCS is a big deal. As the graph below indicates, when all foreseeable technologies are competed in the face of an ever increasing emission price, CCS is the cost-effective technology that delivers a large and increasing share of national reductions. This is not surprising given the trajectory of emissions in oil sands and allied industries, and the CCS opportunities in Alberta and elsewhere. Our modeling indicates that without viable CCS, national emission reduction costs at any emission price rise rapidly.

But, CCS is not quit commercial, given the low price of carbon, and the high capital costs to start, and thus there is a justification for government support. But, government is not the best at picking winners and thus with the private sector involved, perhaps an equity position by government is a good start. Demonstration projects are another. And getting the regulatory frameworks, and rules of the game established are yet another.

So, while economists push for an emission price, there is economic justification to pitch CCS as a climate change technology winner in Canada. Indeed, CCS seems to be one silver bullet that we should all bite.

There seems to be a misconception out there (see here) that Canada does not have a carbon price yet needs one badly…well, that’s not quit right. First, the Regulatory Framework will place a price on carbon through a domestic emission trading scheme starting in 2010 for 50% of Canada’s emissions. Plus, there is emission pricing in Quebec vis a carbon tax, and BC is toying with both cap and trade and an emission tax. And you can’t swing a tonne of carbon without worrying about some sort of future carbon cost. So, expectations theory in economics would argue that we have a price on carbon now that is driving technology choice to some degree.

The problem is not, therefore, that we don’t price carbon in Canada, it is that we do it badly. Policy uncertainty (Tech fund anyone?), bad policy design and well a lack of leadership all lead to decision making myopia where the expected cost of carbon is low, and technology choice today is weakly influenced. So, we have priced emissions in Canada, its just that a large double double from Tim’s has more value.

Once again we see “Globe and Mail” economics dominating the climate debate, where the costs of action and the threats of adverse competitiveness impacts drive the discourse. What Minister Baird is saying here, is that our abatement targets are going to drive firms out of Canada:

“If we simply move production from Canada and the European Union to China or the United States, we won’t have accomplished anything for the environment.”

Well, recent modeling completed by MKJA and myself indicate that the large final emitters would see production cost increases of about 1% in 2020 from a 25$ emission price, and would rise to about 3% at ~75$, the minimum emission price needed to hit the current government’s Regulatory Framework targets (-20% from 2006 in 2020). So, are cost differentials of about 3% on products enough to trigger companies to put their production lines on a slow boat to China? If this is the case, Canada has a much larger productivity issue that should, perhaps, be the focus of more political hot air and broadsheet ink. But, since productivity is not the burning issue, perhaps Canada could move forward for a change.