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1. General perspectives

How should we frame the problem of climate change in economic terms? What principles of economics need to be changed or emphasized to comprehend and analyze the current crisis?


Risk Attitudes to Low-Probability Climate Change Risks: WTP for Flood Insurance
W.J.W. Botzen, J.C.J.M. van den Bergh
Journal of Economic Behavior and Organization, In Press
Natural disasters may increase in frequency and severity in the future as a result of climate change, which is likely to have an impact on the demand for natural disaster insurance. Insights about individual risk beliefs and behavioural responses to changing risks are relevant for insurers, as it allows them, for example, to estimate the demand for new insurance products that cover weather-related damage. This study elicits individual risk beliefs and the demand for low-probability, high-impact flood insurance using the contingent valuation survey method among approximately 1000 homeowners in the Dutch river delta. This study is of practical relevance since currently flood insurance is not available in the Netherlands, while insurers have been considering to provide such insurance. Individuals generally do not behave in accordance with the expected utility model since a significant proportion of homeowners neglect the low-probability flood risk. The willingness-to-pay (WTP) of those individuals who demand flood insurance is on average considerably higher than the expected value of the flood risk they face. Moreover, the WTP for flood insurance is less than proportionally related to increased flood probabilities that were presented to respondents in the questionnaire. Individuals follow a process of Bayesian updating of flood probabilities, since perceptions of flood risk are an important determinant of the WTP, while objective risks derived from geographical characteristics influence the WTP to a lesser extent. Communication of baseline probabilities and changes in flood probabilities using risk ladders facilitate the comprehension of risk by respondents, and has a considerable effect on the level of the WTP and its sensitivity to probability changes. The results indicate that the current ex post public compensation scheme of flood damage lowers demand for private insurance.

Game theory and climate diplomacy
Stephen J. DeCanio and Anders Fremstad
Ecological Economics, In Press
Starting with the "New Periodic Table" (NPT) of 2 × 2 order games introduced by Robinson and Goforth (2005), we provide an exhaustive treatment of the possible game-theoretic characterizations of climate negotiations between two players (e.g., Great Powers or coalitions of states). Of the 144 distinct 2 × 2 games in which the players have strict ordinally ranked utilities, 25 are potentially relevant to climate problem. The negotiations may be characterized as a No-Conflict Game, Prisoner's Dilemma, Coordination Game, Chicken, Type Game, or Cycle, depending on the payoff matrix. Which game corresponds to the actual state of the world depends both on the severity of risks associated with climatechange and the perceptions of the governments engaged in the negotiations. Nash equilibrium or Maxi-min equilibrium (or neither) may be the outcome. Achieving universal abatement of greenhouse gas emissions may require side payments or enforcement mechanisms outside the game framework, but we show how the negotiations themselves may offer opportunities to select between Nash equilibria or alter the payoff rankings and strategic choices of the players. In particular, scientific information pointing to the severity of the risks of climatechange suggests characterization of the negotiations as a Coordination Game rather than a Prisoner's Dilemma.

Disclosed corporate responses to climate change and stock performance: An international empirical analysis
Ziegler, A., Busch, T. & Hoffmann, V. H.
Energy Economics, 2011, 33, 1283 - 1294
This paper examines the relationship between disclosed corporate responses to climate change and stock performance on the European and US stock markets. Methodologically, we consider investor expectations and compare risk-adjusted returns of stock portfolios comprising corporations that differ in this indicator for environmental performance. In this respect, we apply the flexible Carhart four-factor model in addition to the restricted one-factor model based on the Capital Asset Pricing Model (CAPM). The main result of our portfolio analysis is that a trading strategy which consists of buying stocks of corporations disclosing responses to climate change and selling stocks of corporations with no disclosures has become more worthwhile over time in Europe. Furthermore, it can be shown that the relationship between disclosed corporate responses to climate change and stock performance has been positive for energy firms in the USA. One reason for these results could be the underlying stringency of institutional pressure with respect to global warming.

Green growth in the post-Copenhagen climate
Sterner, Thomas & Damon, Maria
Energy Policy, 2011, 39, 7165 - 7173
Global climate change stands out from most environmental problems because it will span generations and force us to think in new ways about intergenerational fairness. It involves the delicate problem of complex coordination between countries on a truly global scale. As long as fossil fuels are too cheap, climate change policy will engage all major economies. The costs are high enough to make efficiency a priority, which means striving toward a single market for carbonâ€"plus tackling the thorny issues of fairness. Hopes for a grand deal were mercilessly shattered at Copenhagen in December 2009 and in other recent UNFCCC meetings, with the result that “green growthâ€? is promoted as an alternative path. Indeed, green growth is clearly the goal, but it is no magic bullet. The world economy will require clear and rather tough policy instruments for growth to be greenâ€"and it is naïve to think otherwise. Growth, green or not, will boost demand for energy and coal is normally the cheapest source. The magnitude of the challenge is greater if we also consider the problems related to nuclear (fission) energy and, in some instances, to bioenergy (such as its competition for land that may be essential for the poor). This paper discusses some necessary ingredients for a long-term global climate strategy. As we wait for the final (and maybe elusive) worldwide treaty, we must find a policy that makes sense and is not only compatible with, but facilitates the development of such a treaty.

Towards new thinking in economics: Terry Barker on structural macroeconomics, climate change mitigation, the relevance of empirical evidence and the need for a revised economics discipline
Serban Scrieciu
World Economics (2011) 12(1): 115-144.
Terry Barker is a leading British economist in macroeconomics, climate economics and empirical analysis. For over 45 years, he has been involved in research at Cambridge on economic theory and applied economics, in areas such as: trade theory and space and time economics; structural macroeconomics; and the macroeconometric modelling of energy-environment-economy interactions. This has included trade theory, space-time economics, climate mitigation economics, and macro-econometric modelling. Though he can be considered a ‘descendant’ of Keynes, Barker defies any categorisation of belonging to a particular school of economic thought. A notable contribution has been his empirical modelling work showing how tougher climate mitigation policies may actually bring long-term socioeconomic benefits. Whilst at the conference on new economics as ‘mainstream’ economics that he initiated in January 2010 in Cambridge, we discussed at length his extremely interesting viewpoints and research. This interview takes the reader through the intellectual history and work of a determined man, who has never ceased encouraging new ideas and pushing forward fresh economic thinking for the benefit of societal progress.

Ecosystem services: From eye-opening metaphor to complexity blinder
Richard B. Norgaard
Ecological Economics (2010) 69(6): 4363-4370.
What started as a humble metaphor to help us think about our relation to nature has become integral to how we are addressing the future of humanity and the course of biological evolution. The metaphor of nature as a stock that provides a flow of services is insufficient for the difficulties we are in or the task ahead. Indeed, combined with the mistaken presumption that we can analyze a global problem within a partial equilibrium economic framework and reach a new economy project-by-project without major institutional change, the simplicity of the stock-flow framework blinds us to the complexity of the human predicament. The ecosystem services approach can be a part of a larger solution, but its dominance in our characterization of our situation and the solution is blinding us to the ecological, economic, and political complexities of the challenges we actually face.

Precautionary principle, economic and energy systems and social equity
Joaquim Francisco de Carvalho, Sonia Seger P. Mercedes and Ildo L. Sauer
Energy Policy (2010) 38(10): 5399-5402.  
In this paper the precautionary principle is reviewed alongside the process of international implementation. Adoption of the precautionary principle is advocated to deal with energy choices as a mechanism to account for potential climate change impacts, notwithstanding the debate on scientific uncertainty on the links between solar activity, greenhouse gas concentration and climate. However, it is also recognized that the widespread application of the precautionary principle to energy choices does not seem to be taking place in the real world. Relevant concrete barriers are identified stemming from the intrinsic logic governing the hegemonic economic system, driving the energy choices by economic surplus and rent generation potential, the existence of social asymmetries inside and among societies as well as by the absence of democratic global governance mechanisms, capable of dealing with climate change issues. Such perception seems to have been reinforced by the outcome of the United Nations Climate Change Conference, held in Copenhagen in December 2009.

The economics of climate change: A post-Stern perspective
Geoffrey Heal
Climatic Change (2009) 96(3): 275-297.
What have we learned from the outpouring of literature as a result of the Stern Review of the Economics of Climate Change? A lot. We have explored the model space and the parameter space much more thoroughly. The Stern Review has catalyzed a fundamental rethinking of the economic case for action on climate change. We are in a position to give some conditions that are sufficient to provide a case for strong action on climate change, but we need more work before we have a fully satisfactory account of the relevant economics. In particular, we need to understand better how climate change affects natural capital—the natural environment and the ecosystems comprising it—and how this in turn affects human welfare.

Between a rock and a soft place: Ecological and feminist economics in policy debates
Julie A. Nelson
Ecological Economics (2009) 69(1): 1-8.
The field of ecological economics includes both economic analysis on the one hand, and discussions of normative values and visions for society, on the other. Using feminist insights into cultural beliefs about the relative "hardness" and "softness" of these two sides, this essay discusses how ecological economists can use this unique "between" space in order to better inform policy. The current crisis of global climate change, it is argued, requires that economists move beyond modeling and measurement, while ecological thinkers need to re-examine beliefs about markets and profit.

Climate economics: A meta-review and some suggestions for future research
Geoffrey Heal
Review of Environmental Economics and Policy (2009) 3(1): 4-21.
What have we learned from the outpouring of literature as a result of the Stern Review of the Economics of Climate Change? A lot. We have explored the models and the possible parameter values much more thoroughly. The Stern Review has catalyzed a fundamental rethinking of the economic case for action on climate change. We are now in a position to identify conditions that are sufficient to make a case for strong action on climate change, but more work is needed before we can have a fully satisfactory account of the relevant economics. In particular, we need to better understand how climate change affects natural capital — the natural environment and the ecosystems comprising it — and how this in turn affects human welfare.

Climate economics in four easy pieces
Frank Ackerman
Development (2008) 51(3): 325-331.
This article presents four principles that are fundamental to a sound analysis of climate economics. First, your grandchildren’s lives are important; a low discount rate is needed to validate concern about far-future outcomes. Second, we need to buy insurance for the planet; prevention of catastrophic worst-case risks, not response to most likely outcomes, should be the motivation for climate policy. Third, climate damages are too valuable to have prices; the impossibility of putting meaningful prices on human life, endangered species, and ecosystems defeats attempts at cost-benefit analysis of climate policy. Fourth, some costs are better than others; the ‘costs’ of active climate policies will create jobs, incomes, and new technologies, while avoiding the much worse costs of physical destruction by an increasingly extreme climate.

The economics of climate change
Nicholas Stern
American Economic Review: Papers & Proceedings (2008) 98(2): 1-37.
GHG emissions are an externality which is different from our usual examples in four key ways: (a) it is global in its origins and impacts; (b) some of the effects are very long term and governed by a flow-stock process; (c) there is a great deal of uncertainty in most steps of the scientific chain; and (d) the effects are potentially very large and many may be irreversible. Thus the economic analysis must place at its core: (i) the economics of risk and uncertainty; (ii) the links between economics and ethics (with potential trade-offs both within and between generations), as well as notions of responsibilities and rights in relation to others and the environment; and (iii) the role of international economic policy. The potential magnitude of impacts means that, for much of the analysis, we have to compare strategies that imply radically different development paths for the world. We cannot, therefore, rely only on the methods of marginal analysis.

Law and economics for a warming world
Lisa Heinzerling and Frank Ackerman
Harvard Law and Policy Review (2008) 1: 331-362.
This article argues that new assumptions and analyses are needed in both law and economics in order to comprehend and respond to climate change. Part I introduces the reasons why climate change requires new and different policy analyses. Part II examines the ways in which certain legal doctrines impede rather than encourage solutions to climate change. Part III does the same for core tenets of economics. Part IV concludes with recommendations for a revised approach to public policy.

The economics of avoiding dangerous climate change: An editorial essay on the Stern Review
Terry Barker
Climatic Change (2008) 89: 173–194.
Mainstream economic thinking about the climate problem has shifted with the Stern Review from a single-discipline focus on cost-benefit analysis to a new inter-disciplinary and multi-disciplinary risk analysis. The economics of the Stern Review has been accepted by governments and the public as mainstream economic thinking on climate change, when in some critical respects it represents a radical departure from the traditional treatment. The conclusions regarding economic policy for climate change have shifted from "do little, later" to "take strong action urgently, before it is too late". This editorial sets out four issues of critical importance to the new conclusions about avoiding dangerous climate change: the complexity of the global energy-economy system (including the poverty and sustainability aspects of development), the ethics of intergenerational equity, the understanding from engineering and history about path dependence and induced technological change, and finally the politics of climate policy.

Why economic analysis supports strong action on climate change: A response to the Stern Review's critics
Simon Dietz and Nicholas Stern
Review of Environmental Economics and Policy (2008) 2(1): 94-113.
Economic research that opposes the strategy of strong and urgent reductions in greenhouse gas emissions usually makes a distinction between scientists, environmentalists, politicians, and others who favor strong action, and economists, who apparently do not. Drawing on the Stern Review on the Economics of Climate Change, this article shows that strong and urgent action is in fact good economics. Much of the previous economic literature on climate change has failed to simultaneously assign the necessary importance to issues of risk and ethics. The case for strong and urgent action set out in the Review is based, first, on the severe risks that the science now identifies (together with additional uncertainties that it raises, which are difficult to quantify), and second, on the ethics of the responsibility of current generations for future generations.

Reflections on the Stern Review: A robust case for strong action to reduce the risks of climate change
Simon Dietz, Chris Hope, Nicholas Stern and Dimitri Zenghelis
World Economics (2007) 8(1): 121-168.
Those who deny the importance of strong and urgent action on climate change essentially offer one of, or a combination of, the following arguments. First, there are those who deny the scientific link between human activities and global warming; most people, and the vast majority of scientists, would find that untenable given the weight of evidence. Second, there are those who, while accepting the science of anthropogenic climate change, argue that the human species is very adaptable and can make itself comfortable whatever the climatic consequences; given the scale of the outcomes that we now have to regard as possible or likely under business-as-usual (BAU), this must be regarded as reckless. Finally, there are those who accept the science of climate change and the likelihood that it will inflict heavy costs, but simply do not care much for what happens in the future beyond the next few decades; most would regard this as unethical. This paper deals primarily with the latter two arguments. An appendix addresses confusions and misconceptions about The Stern Review and responds to points made by critics in previous issues of this journal and elsewhere.

Are optimal CO2 emissions really optimal? Four critical issues for economists in the greenhouse
Christian Azar
Environmental and Resource Economics (1998) 11(3-4): 301-315.
Several economic studies of the greenhouse effect, most notably Nordhaus’s DICE model, suggest that it is optimal to allow the emissions of greenhouse gases (GHG) to increase over the next century. Other studies have found that substantial reductions can be justified on economic grounds. This paper explores the reasons for these differences and identifies four crucial issues in the analysis of the economics of the greenhouse effect: low-probability but catastrophic events; cost evaluation methods; the choice of discount rate; the choice of decision criterion. The paper shows that (i) these aspects are crucial for the policy conclusions drawn from models of the economics of climate change, and that (ii) ethical choices have to be made for each of these issues. This fact needs wider recognition since economics is often perceived as a value neutral tool that can be used to provide policy makers with "optimal" policies.