Monday Study – The Stark Economic Risks Of The Climate Crisis

A time for action on climate change and a time for change in economics

Nicholas Stern, October 2021 (Centre for Climate Change Economics and Grantham Research Institute on Climate Change and the Environment)

Part I

Urgency, scale and opportunity

The science of climate change and the role of targets We must start with the science2. The Intergovernmental Panel on Climate Change (IPCC) has been in existence since 1988 and has produced a series of assessment reports, published every few years, about the current state of knowledge on climate change. Each one of those assessments has been more worrying than the last. The first one, published in 1990, was extremely worrying, but the outlook has only worsened as the evidence has become ever stronger of effects coming through more quickly and with greater intensity than we expected. The latest report (the sixth Assessment Review) published in August 2021 has demonstrated even more clearly and unanimously that we are under intense time pressure if we are to be able to hold temperatures at levels which manage the most extreme risks (IPCC, 2021). Global mean surface temperature is already 1.1°C above that of the end of the 19th century, our usual benchmark…

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Urgency

The next decade is critical. Choices made on infrastructure and capital now will either lock us in to high emissions, or set us on a low-carbon growth path which can be sustainable and inclusive. In the next 15-20 years infrastructure will roughly double; in the next 20-25 years the world economy will probably double; and in the next 40 years the urban population will likely double. If that new infrastructure, the new world economy, or the towns and cities we build look anything like the old, we will have no hope of meeting the objectives of the Paris Agreement. The infrastructure we build in the next 15- 20 years will be decided in the next few years. That is why we have to act quickly. A sense of urgency is absolutely critical in our decision making.

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A new form of growth

The necessary rapid change across the whole system, just described, can be a story of growth, indeed the only sustainable story of growth. In the shorter term, the necessary investments can boost demand in a world where planned savings exceed planned investments (with sluggish demand and low real interest rates). In the short and medium term it is full of innovation, investment, discovery, and new ways of doing things. It can be more efficient; and much cleaner. It can create cities where we can move and breathe, and ecosystems which are robust and fruitful. It is potentially a very attractive, different way of doing things, relative to past dirty models, with so many gains across the different dimensions of well-being. But that does not mean that it is easy. It does mean that it is sensible, it does mean that it is attractive, and it is within our grasp. We have to change radically and, particularly, invest and innovate strongly to get there. That is the challenge. But there can be a real payoff in terms of a much better form of growth. We must also remember that there is unlikely to be a long-run growth story that is high carbon; it would likely create, the IPCC reports show, a physical environment so hostile as to derail growth and undermine living standards across the board…

Rapid technological change

Technology has changed very rapidly over the last 15 years or so. A whole range of low-emission technologies, that are already competitive with fossil-fuel based technologies without subsidy or a carbon price, have emerged. Capital costs for renewable electricity continue to fall much faster than those for conventional technologies and many electric vehicle technologies are now close to costcompetitive with their fossil-fuel counterparts…

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The first decades of this century, the COVID crisis, and the climate crisis

We are at a very special moment in history, facing two crises: the COVID crisis that we are experiencing right now (summer of 2021)- we hope shorter-term, although that itself depends on strong global action - and the climate crisis, which is going to stay with us for a long time. The climate crisis embodies risks and challenges that are bigger, deeper and longer-lasting even than the tragic COVID crisis. There are powerful arguments that we have to tackle these crises in a similar way; with strong, innovative investment, to drive a recovery and create a new form of development and growth. But in assessing ways forward we must begin with the first two decades of this century and paths of investment and growth…

Tackling the twin crises and creating a new internationalism

Tackling the two crises requires a new and shared understanding of how to reconstruct our economies and societies and the meaning of “build back better”. That understanding should be based on a recognition of the nature and origins of the fragilities and difficulties that had been growing before the COVID crisis broke over us. Rebuilding in a different way will involve substantial investment and innovation, and the global nature of the challenges demands international collaboration. There have always been arguments for internationalism; in our current circumstances they are extraordinarily powerful…

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Realising investment for a strong and sustainable recovery

Investment

In section 3, I explained why strong, internationally coordinated investment should be at centre stage, right through from recovery from the COVID pandemic to transformational growth and the drive to a net-zero economy. What kind of orders of magnitude of investment do we need to make? To bring through the new ways of doing things and the new technologies required to make that happen, we have to increase investment by around 2-3 percentage points of GDP across the world, relative to the previous decade - more in some places, less in others – as well as change the composition of investment (in China, however, it is not a question of raising investment rates but changing the composition of investment). Many of these new technologies involve pulling capital increases forward, along with investing in different ways. Renewable electricity, for example, requires upfront investment whereas fuel cost savings are realised once the renewable technologies are operational. Importantly, these investments should not be seen narrowly in terms of extra costs from going “clean”; many of them have tremendous returns in terms of greater efficiency, cleaner air, better health and more. But an increase in the investment rate by 2-3 percentage points of GDP is needed to realise these gains, to recover sustainability and to put us on a new path…

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Policy

These increases in investment, will require strong policy and a positive investment climate, including the functioning of relevant governmental institutions. Further, the many relevant market failures (see section 7b) and the urgency of change indicate the necessity of a whole range of policy instruments. Carbon pricing will be important, but alone it will not be enough. Complementary policies, including city design, regulation and standards, and investments in R&D, will also be needed…

Finance

Investment and innovation inevitably involve a certain amount of risk. Strong and rapid increases in investment might be seen as particularly risky, especially around infrastructure where early stage risk can be severe and the reliability of long-term revenue streams can be problematic. The necessary investment can be realised only with the right kind of finance, in the right place, at the right time, which can help reduce, share and manage the risk. Across the world there are great investment potential and strong savings. But there are important difficulties in turning opportunities into real investment programmes; good policies and social institutions have a powerful role to play…

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What we have learned since the Stern Review

In the light of the policy analyses and arguments set out above, it is interesting to ask how issues and understanding have moved on since the publication of The Economics of Climate Change: The Stern Review (Stern, 2006) in October 2006. Fifteen years on, the review’s core finding – that the costs of inaction on climate change are much greater than the costs of action – which was compelling then, in my view, is now still stronger. First, the science is ever more worrying. Greenhouse gas emissions have continued to rise. There is evidence that the impacts of climate change are happening faster and with greater intensity than expected. We can see ever more clearly that there are significant risks of major areas, with currently large populations, becoming unliveable; thus the risks of mass migration and conflict look increasingly severe. Each IPCC report over the last three decades has looked more worrying. The IPCC 2018 report showed how much more dangerous 2oC is than 1.5oC. And the Sixth Assessment Report of the IPCC on the physical science, published in August 2021, paints a still more difficult picture; time is running out for strong and decisive action if we are to hold temperature increases to 1.5oC…

Part II

How economics must change

An assessment of what the current situation demands of us, particularly for this decade, was set out in Part I. That requires changing our ways of producing and consuming, rapidly and fundamentally, and creating the investment, innovation, sets of policies, and the finance that could foster and support the change. How can we bring our economics to bear in a way that informs those very real and urgent problems? How can we use economic analysis to tell us as much as it possibly can about why to do this, how to do this, and the methods and policy instruments we should use? In this section I will focus, in terms of broad analytical approaches, on where we are in the economics discipline on climate change and argue that it is time for change in the economics of climate change and, in some respects, economics generally. In the following section, 7, I will argue that our subject does have much to offer in applying our existing tools and in developing new perspectives and analyses, but we must be innovative and, as a profession, engage much more strongly on this, the biggest issue of our times…

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New approaches to the economics of climate change

I have tried to explain the limitations of the IAMs in tackling the big questions at issue: the understanding and management of extreme risk and of rapid structural change. So, what are good approaches to the economics of climate change? We are going to need a suite of different models, a variety of perspectives, and a collection of different ways of understanding different parts of the problem. And then good judgement in putting all these pieces together…

Responsibility, opportunity, collaboration and leadership

The strategic challenge is to move to a net-zero carbon economy within a few decades. The economics of action must be focused on the achievement of fundamental economic change at real pace, where time matters (Stern, 2018). That will involve, as I have stressed, looking at innovation, behaviour change, political economy, and the dynamics of all those elements. And we will need all of economics to take on these problems: international, industrial, labour, health, education, environment, energy, economic history and more. We should not be too narrowly focussed on a sub-discipline within economics if we are going to take on big problems of this kind; we should be economists. And we must work with other social scientists, scientists and engineers. Though we may have our specialities, we have to recognise that most elements of economics come into the challenge of climate change. There has never been anything more important, there has never been anything more fascinating, and we have much to offer from our existing set of ideas and tools if we put them to use. And we must develop new analysis and perspectives around risks and change. That is why I think it is time for change in economics…

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