Resource Economics’s Most Problematic Assumption

Every theory or, to use the term famously coined by Thomas Kuhn, paradigm is based on a set of assumptions. Some assumptions are more, others less important for the overall theoretical system that is built upon them. This has to do with the ease with which they can (or cannot) be relaxed if shown not valid. It is, however, a truism that every model, theory or paradigm must be based on simplifying assumptions and that “closeness to reality” is seldom a relevant criterion for their evaluation (this latter statement must be, of course, qualified, which I will do below). Resource economics, i.e., the branch of economic theory that deals with the exploration, extraction and markets for (non-renewable) resources is no exception from this rule. One of my professors at the university used to present empirical findings regarding important assumptions of economic theory (such as the interest rate parity) by stating: “This is one of the few economic assumptions that stand up to reality.” The so-called Hotelling’s rule, one of the crucial models and assumptions of resource economics, is not one of those few. Continue reading

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What Is Uncertain in Climate Economics?

One of the central problems of a majority of economic integrated assessment models of climate change is that they mostly ignore or at best underplay all the uncertainty around the problem they try to analyse. Meanwhile, these models are mostly presented in calibrated form, i.e. including concrete values for different variables – just what a cost-benefit analysis is expected to do. Even if there are some confidence intervals specified, they are mostly rather crude and are a kind of sherry-picking of “meaningful” uncertainties. However, the dynamics of the climate itself and the consequences of his changing are profoundly uncertain and full of feedback mechanisms. In the following I would like to present and discuss some major sources of uncertainty in economic climate modelling, arguing that it is even deeper than in “just” climate modelling and that the consequences for standard approaches are profound. Continue reading

Connecting Climate Science and Economics, Part 2

In this post I am going to give a summary of the second part of Climate Economics: The State of the Art by Frank Ackerman and Elizabeth Stanton of the Stockholm Environment Institute, which deals with recent advances in the economics of climate change. Part 1, with a discussion of newest results from the climate science, can be found here. A summary of the above report’s overview of research in the economics of mitigation and adaptation will follow. Continue reading

Discounting in the Economics of Climate Change

It was frequently argued that the discount rate is the most important single figure in the economics of climate change. Due to this figure we observe large differences in policy recommendation between different economists of climate change (most notably, the choice of the discount rate determines the difference in what William Nordhaus on the one hand, and Nicholas Stern, on the other, call for). There is no concrete recommendation in standard economics how to discount long run benefits and losses. But it is clear that, if you want to compare benefits from the future with costs today, you need a discount rate. So far agreement prevails. The problem is the definition (or: choice) of the “right” discount rate, which involves economic forecasts as well as ethical decisions. In the following I shall present an overview about the main arguments in the discussion. Continue reading

Why Economics of Climate Change?

Anthropogenic climate change is a scientific fact. It may be regarded as the greatest challenge humanity has ever imposed over itself. Yet, it is an extremely complex challenge. It has, of course, a scientific component – without the advances in science, especially in climatology (but also, e.g., physics and geology), we probably wouldn’t be aware of the problem we face. Furthermore, as Kristen Sheeran rightly notes,

[m]any will argue that, at its core, the climate crisis is about ethics, rights, and responsibilities.

But, why is there economics of climate change? Do we need it? And if yes, what for? Continue reading

Why Climate Scientists and Economists Cannot Agree

Most climate scientists are calling for immediate and decisive action of the global community needed if we want to prevent global warming from devastating our world. Since they are people who have dealt with the subject professionally for years, there is no reason not to believe them. Nevertheless, distinguished economists who work on climate change (e.g. William Nordhaus or Richard Tol) are calling to slow down, claiming that immediate and decisive action not only is not necessary – it could be harmful to the world economy as well. Whom should one trust? And why the differences? Continue reading