Tuesday, December 12, 2006

The Stern Report's Other Number

Ever since the Stern report came out last month the focus of discussion has been on choosing an appropriate discount rate and how Stern's choice of a low discount rate inflates the costs of climate change. Stern's estimate that climate change under the BAU business as usual scenario will cost us between 5-20% of future GDP is probably way out of line and many people have already pointed this out (Whitehead, Nordhaus, Tol, Mankiw) to name a few. But I think we are all focused on the wrong number. The other side of the Stern report talks about how much it will cost us to change our behavior and begin to address climate change and that number is 1% of GDP - that's right 1 freakin dollar out of every one hundred dollars of imcome. Why aren't people fired up about this? Forget the 5-20% cost estimate. Just for fun - let's assume the future costs are only 1.1% - then what do you know the CBA crowd can rest assured its worth the change. Or better yet - what if we all go back and look at our Principles of Macroeconomics book and see what GDP measures. It is nothing other than the size of the economy. Who's to say the economy couldn't shrink one percent and everyone would be better off. Krugman pointed this out over a decade ago in the context of the connection between climate policy and improving local and regional air quality. I could go on and on - but I think you get the point. If it is going to cost us one percent of GDP to avoid the risks, or should I say uncertainties for all you Knightians out there, associated with increasing CO2 levels then why not do it? One percent is the number we should be obsessing over NOT 5-20.

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