Program Lecture 2 Economic Returns From The Biosphere

Program on Information and Resources Columbia UniversityProgram on Information and Resources Columbia University 11
Economic Returns fromEconomic Returns from
the Biospherethe Biosphere
Pegram LecturesPegram Lectures
Brookhaven National LaboratoriesBrookhaven National Laboratories
Graciela ChichilniskyGraciela Chichilnisky
UNESCO Chair in Mathematics and EconomicsUNESCO Chair in Mathematics and Economics
Columbia UniversityColumbia University

Program on Information and Resources Columbia Universi2
Program on Information andProgram on Information and
ResourcesResources
Columbia UniversityColumbia University

Human beings, or their close genetic relatives,Human beings, or their close genetic relatives,
have lived on Earth for several million yearshave lived on Earth for several million years
Yet only recently has human activity reachedYet only recently has human activity reached
levels at which it can affect fundamental naturallevels at which it can affect fundamental natural
processesprocesses
 the concentration of gases in thethe concentration of gases in the
atmosphere (CO2, Ozone)atmosphere (CO2, Ozone)
 the planet’s water massthe planet’s water mass
 The complex web of species whichThe complex web of species which
constitute life on earthconstitute life on earth

Changes in global atmospheric compositionChanges in global atmospheric composition
Atmospheric Concentration of CO2 ,
1959-2000
280
290
300
310
320
330
340
350
360
370
380
1959 1963 1967 1971 1975 1979 1983 1987 1991 1995 1999
CarbonDioxideMixingRatio(ppm)
Atmospheric Concentration of CFC-12,
1978-2001
0
100
200
300
400
500
600
1978 1982 1986 1990 1994 1998
CFC-12MixingRatio(ppm)
Atmospheric Concentration of
Methane, 1986-2001
1,560
1,580
1,600
1,620
1,640
1,660
1,680
1,700
1,720
1,740
1986 1990 1994 1998
MethaneMixingRatio(ppm)
Fossil Fuel Consumption
Forest Burning
Refrigerants
Foam Blowing
Solvents
Rice Paddies
Marshlands
Cattle
Sources:
The Facts - Trace
Gas
Concentrations
are increasing
Source: World Resources
Institute, 2002

Source: National Oceanic and Atmospheric Administration (NOAA). US Department of
Commerce. http://www.noaa.gov/

Policy responsesPolicy responses
 1992 Rio targets: roll back industrial1992 Rio targets: roll back industrial
countries emission to 1990 levels bycountries emission to 1990 levels by
20002000
 Since then emissions have increasedSince then emissions have increased
 Little progress has been achievedLittle progress has been achieved

Source: National Oceanic and Atmospheric Administration (NOAA). US Department of
Commerce. http://www.noaa.gov/

Sources: “A timeline of climate change” Matthew Knight, CNN science, 14, May 2008.
http://www.cnn.com/2008/TECH/science/03/31/Intro.timeline/index.html (the rest came from G. Chichilnisky directly).

How to achieve the Rio targets?How to achieve the Rio targets?
Proposals:Proposals:
 Global carbon taxes (OECD Study,Global carbon taxes (OECD Study,
1993 – 41993 – 4
 Global markets for carbon emissionGlobal markets for carbon emission
permits (Chichilnisky, 1993:permits (Chichilnisky, 1993:
proposal to OECD, to UN Frameworkproposal to OECD, to UN Framework
Convention on Climate Change, ChairConvention on Climate Change, Chair
R. Estrada-Oyuela, and to WorldR. Estrada-Oyuela, and to World
Bank 1995Bank 1995

1995 Berlin Mandate1995 Berlin Mandate
 Negotiate Protocol to quantifyNegotiate Protocol to quantify
limitations by industrial countries,limitations by industrial countries,
e.g. in 2000, 2010, 2020e.g. in 2000, 2010, 2020
 Joint implementations pilotJoint implementations pilot
 Prelude to emissions tradingPrelude to emissions trading

Geneva: June 1996Geneva: June 1996
 U.S. Tim Wirth proposes globalU.S. Tim Wirth proposes global
emission marketsemission markets

●● In 1996, the IPCC reported thatIn 1996, the IPCC reported that
human induced emissions of carbonhuman induced emissions of carbon
have a discernible effect on climatehave a discernible effect on climate
● Scientific uncertainty persists● Scientific uncertainty persists
● But the risk of climate change is real● But the risk of climate change is real
and potentially catastrophicand potentially catastrophic

Kyoto: 1997Kyoto: 1997
 166 nations accepted our166 nations accepted our
emissions market proposal toemissions market proposal to
UNFCCCUNFCCC
The Kyoto ProtocolThe Kyoto Protocol

Kyoto set 5% emission reductionsKyoto set 5% emission reductions
for Annex 1 countries by 2008-2012for Annex 1 countries by 2008-2012
and created three facilitatingand created three facilitating
mechanisms to achieve thismechanisms to achieve this

The Kyoto Protocol sets caps onThe Kyoto Protocol sets caps on
COCO22 emissions, and allowsemissions, and allows
industrial nations to trade the rightsindustrial nations to trade the rights
to emitto emit

Facilitating mechanisms forFacilitating mechanisms for
Annex 1 countries:Annex 1 countries:
 Joint implementation (article 6)Joint implementation (article 6)
 Emission trading (article 17)Emission trading (article 17)
See also art 3.10 and 3.11See also art 3.10 and 3.11

Only one mechanism involves bothOnly one mechanism involves both
industrial and developing countries:industrial and developing countries:
CLEAN DEVELOPMENTCLEAN DEVELOPMENT
MECHANISMMECHANISM
(ARTICLE 12)(ARTICLE 12)

1993 BUENOS AIRES COP41993 BUENOS AIRES COP4
Set 2 year deadline for completingSet 2 year deadline for completing
the KYOTO AGENDAthe KYOTO AGENDA

The Kyoto Protocol sets caps onThe Kyoto Protocol sets caps on
COCO22 emissions, and allowsemissions, and allows
industrial nations to trade the rightsindustrial nations to trade the rights
to emitto emit

TODAYTODAY
The profits obtained are the same forThe profits obtained are the same for
a Ford factory that produces cars ina Ford factory that produces cars in
China usingChina using dirtydirty technology ortechnology or
cleanclean technologytechnology

BALI - COP 13:BALI - COP 13:
The Bali RoadmapThe Bali Roadmap
COPENHAGEN COP15COPENHAGEN COP15
Reducing the U.S. – China impasseReducing the U.S. – China impasse
A NEW COLD WAR?A NEW COLD WAR?

Three outstanding issues forThree outstanding issues for
implementation of the Kyotoimplementation of the Kyoto
Protocol:Protocol:
 Opposition from the private sectorOpposition from the private sector
 Developing countries do not participate inDeveloping countries do not participate in
emissions limitsemissions limits
 U.S.-China impasse: A new Cold War?U.S.-China impasse: A new Cold War?

Both issues arise from fearsBoth issues arise from fears
that emissions limits willthat emissions limits will
interfere with economicinterfere with economic
growth and the rise ingrowth and the rise in
standards of livingstandards of living

How to cut the link betweenHow to cut the link between
emissions and economicemissions and economic
growth?growth?
Only new clean technologiesOnly new clean technologies
can achieve thiscan achieve this

New technology requiresNew technology requires
appropriate economicappropriate economic
conditions to beconditions to be
implemented.implemented.
Resource prices are keyResource prices are key

Prices have an impactPrices have an impact
A much-quoted statistic on this subject isA much-quoted statistic on this subject is
that the amount of energy used inthat the amount of energy used in
producing $1000-worth of constant-dollarproducing $1000-worth of constant-dollar
GNP in the USA fell by 38.9% from 1973GNP in the USA fell by 38.9% from 1973
to 1983.to 1983.
This was a result of switching to moreThis was a result of switching to more
energy-efficient technologies, and mostlyenergy-efficient technologies, and mostly
of demand patterns changing away fromof demand patterns changing away from
energy intensive products and services.energy intensive products and services.
Most of this striking drop in energy useMost of this striking drop in energy use
occurred in the period 1979-1983.occurred in the period 1979-1983.

New TechnologiesNew Technologies
(fuel cells, solar)(fuel cells, solar)
seem uncompetitive because ofseem uncompetitive because of
excessively low resource pricesexcessively low resource prices
In real terms, oil prices are theIn real terms, oil prices are the
lowest ever todaylowest ever today

Through clean technologies,Through clean technologies,
developing countries candeveloping countries can
“leapfrog”, without repeating the“leapfrog”, without repeating the
resource-intensive growth thatresource-intensive growth that
characterizes industrialcharacterizes industrial
countriescountries

Technology transfers andTechnology transfers and
emissions tradingemissions trading
Today there is no incentive for a USAToday there is no incentive for a USA
corporation to set plants incorporation to set plants in
developing countries using modern,developing countries using modern,
clean technologyclean technology

EMISSIONS MARKETSEMISSIONS MARKETS
Change all thisChange all this
They reward the transfers of cleanThey reward the transfers of clean
technologytechnology
How?How?

If Ford is allocated permits forIf Ford is allocated permits for
clean car technologyclean car technology
corresponding to the emissionscorresponding to the emissions
saved, it can cash these permitssaved, it can cash these permits
in the emissions marketin the emissions market

Markets for Emission PermitsMarkets for Emission Permits
Annex 1 Countries are givenAnnex 1 Countries are given
allocations of property rights onallocations of property rights on
emissions summing up to a 5%emissions summing up to a 5%
reduction, and they can tradereduction, and they can trade
these freely among themselvesthese freely among themselves

EXAMPLESEXAMPLES
 The trading of SOThe trading of SO22 in the Chicagoin the Chicago
Board of Trade since 1993, followingBoard of Trade since 1993, following
the Clean Air Actthe Clean Air Act
 Proposed Water Markets in CaliforniaProposed Water Markets in California

Biodiversity and Markets forBiodiversity and Markets for
emissions permitsemissions permits
Deforestation is the source ofDeforestation is the source of
approximately 20% of globalapproximately 20% of global
greenhouse gas emissions. Sciencegreenhouse gas emissions. Science
has shown that forests act as “sinks”has shown that forests act as “sinks”
retaining large amounts of carbonretaining large amounts of carbon
and absorbing large quantities ofand absorbing large quantities of
carbon dioxidecarbon dioxide

Biodiversity and Markets forBiodiversity and Markets for
emissions permitsemissions permits
The Bolivian government has added 2.1 millionThe Bolivian government has added 2.1 million
acres of tropical forest land to the Noel Kempffacres of tropical forest land to the Noel Kempff
Mercado National Park, essentially doubling itsMercado National Park, essentially doubling its
size. By investing in the protection of this area,size. By investing in the protection of this area,
three U.S. corporations, American Electric Power,three U.S. corporations, American Electric Power,
BP America and Pacific Corp., and the BolivianBP America and Pacific Corp., and the Bolivian
government will receive carbon offset credits.government will receive carbon offset credits.
These credits could have significant market value,These credits could have significant market value,
should a trading system develop as a result ofshould a trading system develop as a result of
international negotiations stemming from theinternational negotiations stemming from the
December 1997 Kyoto conference on climateDecember 1997 Kyoto conference on climate
changechange

Market InnovationMarket Innovation
New Markets are created, whichNew Markets are created, which
trade property rights on the use oftrade property rights on the use of
the Global Commonsthe Global Commons

The Emergence of GlobalThe Emergence of Global
Environmental MarketsEnvironmental Markets
The Kyoto ProtocolThe Kyoto Protocol

Financial Innovation Offers AFinancial Innovation Offers A
SolutionSolution
 New York purchased conservationNew York purchased conservation
land in the Catskillsland in the Catskills
 The $660 million purchase was paidThe $660 million purchase was paid
by selling an environmental bondby selling an environmental bond
 New York saved $3.34 billion byNew York saved $3.34 billion by
conserving the watershedconserving the watershed

Financial instruments to preserveFinancial instruments to preserve
and realize the value of watershedsand realize the value of watersheds
 For decades the water of New York isFor decades the water of New York is
purified by micro-organisms in the Catskillpurified by micro-organisms in the Catskill
soilsoil
 Their survival is threatened today byTheir survival is threatened today by
pesticides and fertilizerspesticides and fertilizers
 A $6 billion purification plant would beA $6 billion purification plant would be
needed if they disappearedneeded if they disappeared
 Trading an innovative environmental bond,Trading an innovative environmental bond,
New York purchased conservation land forNew York purchased conservation land for
$680 million in the Catskills, thus avoiding$680 million in the Catskills, thus avoiding
the cost of the plantthe cost of the plant

The watershed problem is globalThe watershed problem is global
 The value of watershed services toThe value of watershed services to
major cities across the world ismajor cities across the world is
estimated at $900 billionestimated at $900 billion
 One can securitize watershedOne can securitize watershed
services through innovative financialservices through innovative financial
instrumentsinstruments

SECURITIZATIONSECURITIZATION
 Form corporation to manageForm corporation to manage
conservationconservation
 Corporation owns the cost savingsCorporation owns the cost savings
from conserving watershedfrom conserving watershed
 Finance conservation by sellingFinance conservation by selling
sharesshares
 Local community and state shouldLocal community and state should
own sharesown shares

Increased knowledge can helpIncreased knowledge can help
How?How?
It can lead to:It can lead to:
 Better understanding of natural risks andBetter understanding of natural risks and
how to manage themhow to manage them
(El Nino and catastrophic bundles)(El Nino and catastrophic bundles)
 Better understanding of human impacts onBetter understanding of human impacts on
nature and of new courses of actionnature and of new courses of action
(watersheds and environmental(watersheds and environmental
bondsbonds

Markets are widely usedMarkets are widely used
institutionsinstitutions
They are decentralized, and can be efficient.They are decentralized, and can be efficient.
But global environmental markets tradeBut global environmental markets trade
unusual goods:unusual goods: privately produced publicprivately produced public
goodsgoods
● Biodiversity is one● Biodiversity is one
● The planet’s atmosphere is another● The planet’s atmosphere is another

Environmental assets are oftenEnvironmental assets are often
public goodspublic goods
 COCO22 concentration in the atmosphereconcentration in the atmosphere
is a quintessential public goodis a quintessential public good
because it mixes very thoroughlybecause it mixes very thoroughly
throughout the planet and is verythroughout the planet and is very
stable (remains about 100 years)stable (remains about 100 years)
 It is not a typical public goodIt is not a typical public good
because it is not produced by thebecause it is not produced by the
government such as defensegovernment such as defense
 COCO22 is privately producedis privately produced

Public goods changePublic goods change
mattersmatters
New Economic FindingsNew Economic Findings
 Only certain allocations of propertyOnly certain allocations of property
rights on the atmosphere betweenrights on the atmosphere between
countries will yield efficient marketcountries will yield efficient market
solutionssolutions
 This ties together the goals ofThis ties together the goals of
efficiency and fairness:efficiency and fairness:
 The aspirations of North and SouthThe aspirations of North and South

Privately produced public goodsPrivately produced public goods
 are goods which are not “rival” inare goods which are not “rival” in
consumption, but are privatelyconsumption, but are privately
producedproduced
 we all produce emissions but thewe all produce emissions but the
atmosphere is the same for us allatmosphere is the same for us all

First Theorem of Welfare EconomicsFirst Theorem of Welfare Economics
The allocation resulting from a competitiveThe allocation resulting from a competitive
market equilibrium with private goods ismarket equilibrium with private goods is
Pareto efficient (Arrow, 1950)Pareto efficient (Arrow, 1950)
 This theorem is independent of theThis theorem is independent of the
distribution of property rights. Fordistribution of property rights. For
example: all but two traders may haveexample: all but two traders may have
zero endowments of property rights andzero endowments of property rights and
the resulting equilibrium is still Paretothe resulting equilibrium is still Pareto
efficient.efficient.

• But it requires all tradedBut it requires all traded
goods to begoods to be private goods,private goods,
with rival consumption, andwith rival consumption, and
privately owned.privately owned.

Markets with PPP goods areMarkets with PPP goods are
different from standard marketsdifferent from standard markets
In private goods markets,In private goods markets,
efficiency and fairness areefficiency and fairness are
separate conceptsseparate concepts
In markets with privatelyIn markets with privately
produced public (PPP) goods theseproduced public (PPP) goods these
two concepts are linkedtwo concepts are linked

With private goods efficiency requiresWith private goods efficiency requires
that MRS=MRT, but with public goodsthat MRS=MRT, but with public goods
the formula changes:the formula changes:
Linden-Bowen and Samuelson provedLinden-Bowen and Samuelson proved
that:that:
Sum of MRS across people = MRTSum of MRS across people = MRT

●● For efficient markets, tradersFor efficient markets, traders
should choose freely betweenshould choose freely between
private goods andprivate goods and
environmental qualityenvironmental quality
●● However the atmosphereHowever the atmosphere
concentration of COconcentration of CO22 is one andis one and
the same for all. This is anthe same for all. This is an
unavoidable physical factunavoidable physical fact

●● Therefore free choice mustTherefore free choice must
lead every trader to select thelead every trader to select the
same overall trade-off betweensame overall trade-off between
private goods and atmosphericprivate goods and atmospheric
qualityquality
●● For this to happen, trader’sFor this to happen, trader’s
wealth should not be too farwealth should not be too far
apartapart

●● Efficiency and distribution areEfficiency and distribution are
connected in markets with PPPconnected in markets with PPP
goodsgoods
●● A measure of equity is necessaryA measure of equity is necessary
for efficiencyfor efficiency
●● Markets with knowledge andMarkets with knowledge and
environmental assets requireenvironmental assets require
equity for efficiencyequity for efficiency

First Welfare Theorem inFirst Welfare Theorem in
Markets with PrivatelyMarkets with Privately
Produced Public GoodsProduced Public Goods
 Only a finite number of ways ofOnly a finite number of ways of
distributing property rights on adistributing property rights on a
given total of emissions rightsgiven total of emissions rights
between the traders gives rise tobetween the traders gives rise to
efficient market allocationsefficient market allocations

●● Efficiency and distribution areEfficiency and distribution are
closely connected in economiesclosely connected in economies
with environmental assetswith environmental assets
● A measure of equity is● A measure of equity is
necessary for efficiencynecessary for efficiency

POLICYPOLICY
Those who have fewer endowmentsThose who have fewer endowments
of private goods must be endowedof private goods must be endowed
with more property rights on the usewith more property rights on the use
of the PPP good. Otherwise theof the PPP good. Otherwise the
market does not operate efficientlymarket does not operate efficiently

●● One way to ensure this is to follow aOne way to ensure this is to follow a
simple rule: the countries that emit lesssimple rule: the countries that emit less
receive somewhat more permits:receive somewhat more permits:
● A “reverse grand-fathering” allocation● A “reverse grand-fathering” allocation
● Repeated across time, such a policy● Repeated across time, such a policy
would compensate those who use thewould compensate those who use the
atmosphere judiciously and provideatmosphere judiciously and provide
incentives to abateincentives to abate

This scheme:This scheme:
 Rewards the transfers of cleanRewards the transfers of clean
technology to developing countriestechnology to developing countries
 Multiplies the returns on R&D in theMultiplies the returns on R&D in the
private sectorprivate sector
 Securitizing these returns attractsSecuritizing these returns attracts
global capital from private sourcesglobal capital from private sources
for clean technology transfersfor clean technology transfers

A market hasA market has NN traded goods andtraded goods and HH
traderstraders
Each trader has a preferenceEach trader has a preference uuhh : R: RNN
RR
andand and allocation of property rightsand allocation of property rights
ΩΩhh ЄЄ RRNN
..
NEW MARKETS

What is economic efficiency:What is economic efficiency:
A feasible allocation isA feasible allocation is ParetoPareto
efficientefficient if there is no other feasibleif there is no other feasible
allocation which makes everybody asallocation which makes everybody as
well off, and some strictly better offwell off, and some strictly better off

AA competitive equilibriumcompetitive equilibrium is a priceis a price p*p* ∈∈
RRNN
and an allocationand an allocation xx11,…,x,…,xHH ∈∈ RRN x HN x H
such thatsuch that
each trader maximizes utility subject to aeach trader maximizes utility subject to a
budget constraint:budget constraint:
Max (uh(y)) for y ∈ {z Є RN
: <p*, z> = <p*,Ωh>}
And markets clear:And markets clear:
Σ xh = Σ Ωh.
H H
h=1 h=1

A competitive market equilibriumA competitive market equilibrium
Is a set of pricesIs a set of prices p*p* and an allocation ofand an allocation of
goodsgoods xx11,…, x,…, xHH ∈∈ RRN x HN x H
at which each traderat which each trader
maximizes utility subject to a budgetmaximizes utility subject to a budget
constraint, and all markets clear.constraint, and all markets clear.

A General ModelA General Model
•Consider a world economy with I countries, I ≥ 2 ,
indexed by i = 1,…,I. Each has a utility function ui ,
arguments a vector of private goods ci = (ci,1,ci,2,…,ci,m)
where m is the number of private goods, and also the
quality of the world’s atmosphere, a, which is a public
good.
• The quality of the atmosphere, a, is measured by
the reciprocal or the negative of CO2 concentration.
The concentration of CO2 is “produced” by emissions
of carbon, which are positively associated with the
production of private goods.

•Let y be a vector giving the production levels of
the m private goods in the country i.
a = Σ ai , ai = Φ (yi) and < 0 ∀ i.
a is a measure of atmospheric quality overall, and
ai is an index of the abatement carried out by
country i.
•Feasibility is defined by the above and by the
condition that the total consumption of each
private good worldwide equal total production,
∑ ci = ∑ yi
This allows unrestricted lump sum redistributions.
I
i=1
∂φι
∂yi,l
i=1,…,I i=1,…,I

 A Pareto efficient allocation is the solution to theA Pareto efficient allocation is the solution to the
problem of maximizing the utility of a designedproblem of maximizing the utility of a designed
country, subject to the other countries all reachingcountry, subject to the other countries all reaching
prescribed utility levels. This gives the followingprescribed utility levels. This gives the following
conditions:conditions:
= λ= λkk ∀∀ l =l = 1,…,1,…,mm andand ∀∀ kk ≠≠ i.i.
This implies common MRS for all countries. CountryThis implies common MRS for all countries. Country ii
is the country whose utility is being maximized, and λis the country whose utility is being maximized, and λkk
is a Lagrange multiplier associated with the constraintis a Lagrange multiplier associated with the constraint
that countrythat country kk reach a specified welfare level, andreach a specified welfare level, and
== ∀∀ l ,l ,
∂ui
∂ci,l
∂uk
∂ci,l
∂Φi
∂yi,l
∂uk
∂ci,l
Σk λk
∂uk
∂ a

First Welfare Theorem for Markets withFirst Welfare Theorem for Markets with
Privately Produced Public GoodsPrivately Produced Public Goods
TheoremTheorem
In an economy withIn an economy with kk≥≥2 traders,2 traders, jj≥≥1private1private
goods and a public good, there exists at most agoods and a public good, there exists at most a
one-dimensional manifold o property rightsone-dimensional manifold o property rights
allocations on the use of the public goodallocations on the use of the public good
(allocation of “permits”) from which the(allocation of “permits”) from which the
competitive equilibrium is Pareto efficient.competitive equilibrium is Pareto efficient.
This is the Manifold of Efficient Allocations ofThis is the Manifold of Efficient Allocations of
Property RightsProperty Rights

First Welfare TheoremFirst Welfare Theorem
In Markets with Privately Produced Public GoodsIn Markets with Privately Produced Public Goods
There is only a finite number of ways ofThere is only a finite number of ways of
distributing property rights on a given totaldistributing property rights on a given total
environmental use between the traders so thatenvironmental use between the traders so that
thethe market equilibrium is Pareto efficientmarket equilibrium is Pareto efficient
Typically efficiency requires that those with fewerTypically efficiency requires that those with fewer
endowments of private goods should have aendowments of private goods should have a
higher allocation of property rights on the publichigher allocation of property rights on the public
goodsgoods
Chichilnisky, 1992-3Chichilnisky, 1992-3
Chichilnisky and Heal, 1993Chichilnisky and Heal, 1993
Chichilnisky, Heal and Starrett, 1993-4Chichilnisky, Heal and Starrett, 1993-4

Simple Example of a Market withSimple Example of a Market with
Privately Produced Public GoodsPrivately Produced Public Goods
Two Countries, i=1,2Two Countries, i=1,2
Two Goods:Two Goods:
one private:one private: xx
and one public:and one public: aa = abatement = -emissions= abatement = -emissions
Initial data: (1) the technologyInitial data: (1) the technology φ (φ (aa) =) = x,x,
And (2) the property rights on the use of the publicAnd (2) the property rights on the use of the public
good,good,
aaii ,, ΣΣιι aa11 = a= a

Each Country solves the following problem:Each Country solves the following problem:
((**)) Max uMax uii (x(xii ,a),,a),
Such thatSuch that
xxii== φ (φ (aaii)+π)+π ( a( aii – a– aii),), φφ’’ < 0< 0
wherewhere φφ is the market price ofis the market price of xx relative torelative to a.a.
At World Market Equilibrium each countryAt World Market Equilibrium each country
maximizes utility (*), and markets clearmaximizes utility (*), and markets clear
ΣΣ aaii == ΣΣ aaii = a= aii

New Economic FindingsNew Economic Findings
 Efficiency in trading permits requiresEfficiency in trading permits requires
more emission rights to developingmore emission rights to developing
countriescountries
 Why?Why?

Experiments withExperiments with
GREEN MODELGREEN MODEL
Show that the world costShow that the world cost
of abatement is lowerof abatement is lower
when the South is givenwhen the South is given
proportionately moreproportionately more
permitspermits

Experiments with Columbia-GreenExperiments with Columbia-Green
model:model:
 General equilibrium model withGeneral equilibrium model with
permit marketspermit markets
 12 regions12 regions
 12 by 12 international trade matrix12 by 12 international trade matrix
 8 sectors8 sectors
 Experiments lead to similar finding,Experiments lead to similar finding,
i.e. equity and efficiency arei.e. equity and efficiency are
connectedconnected

Sensitivity analysis of the OECD-Sensitivity analysis of the OECD-
PIR global model shows that it isPIR global model shows that it is
more efficient to allocate somewhatmore efficient to allocate somewhat
more permits to developingmore permits to developing
countriescountries
 Currently the N-S per capita difference inCurrently the N-S per capita difference in
emissions is 6:1emissions is 6:1
 IN the case of U.S. the difference is 10:1IN the case of U.S. the difference is 10:1
 Developing countries with more than 86%Developing countries with more than 86%
of the world population emit less thanof the world population emit less than
70% of the total carbon emissions70% of the total carbon emissions

Present Value of Real Income Loss over 2000-2050Present Value of Real Income Loss over 2000-2050
(in percentage deviation relative to BaU)(in percentage deviation relative to BaU)
INDIVIDUALINDIVIDUAL
STABLILITYSTABLILITY
UNIFORMUNIFORM
TAXTAX
GRANDGRAND
FATHERINGFATHERING
POPULATIONPOPULATION
BASEDBASED
MIXEDMIXED
USAUSA
JPNJPN
-O.79-O.79
-2.41-2.41
-0.90-0.90
-1.24-1.24
-0.76-0.76
-1.83-1.83
-2.94-2.94
-2.84-2.84
-1.84-1.84
-2.34-2.34
EECEEC
OOEOOE
-1.23-1.23
-0.58-0.58
-1.16-1.16
-0.55-0.55
-1.22-1.22
-0.54-0.54
-3.13-3.13
-1.53-1.53
-2.19-2.19
-1.04-1.04
EEXEEX
CHNCHN
-3.39-3.39
-3.88-3.88
-0.83-0.83
-3.47-3.47
-0.78-0.78
-4.14-4.14
0.090.09
6.026.02
-0.39-0.39
1.041.04
FSUFSU
INDIND
-1.42-1.42
-2.61-2.61
-2.66-2.66
-2.00-2.00
1.081.08
-2.94-2.94
-7.13-7.13
14.6214.62
-2.92-2.92
7.007.00
EETEET
DAEDAE
-0.33-0.33
-0.29-0.29
-1.09-1.09
0.160.16
0.810.81
0.200.20
-5.94-5.94
0.190.19
-2.51-2.51
-0.05-0.05
BRABRA
ROWROW
-1.60-1.60
-0.40-0.40
-1.78-1.78
-0.01-0.01
-4.40-4.40
0.050.05
-0.55-0.55
0.210.21
-2.45-2.45
0.120.12
WORLDWORLD -1.65-1.65 -1.16-1.16 -1.17-1.17 -1.06-1.06 -1.07-1.07

This is because each dollar ofThis is because each dollar of
investment yields more output ininvestment yields more output in
the Souththe South

GDP growth (annual %) of high income
vs. middle and low income countries
0
1
2
3
4
5
6
1980 1984 1988 1992 1996 2000
High income
Low & middle income
World Bank 2002.

Gross domestic savings rate (% of GDP) high
income vs. middle and low income countries
0
5
10
15
20
25
30
1980 1984 1988 1992 1996 2000
High income
Low & middle income
World Bank 2002.

Ratio of GDP growth (annual %) to Gross
domestic savings (% of GDP)
0
0.05
0.1
0.15
0.2
0.25
1980 1984 1988 1992 1996 2000
High income
Low & middle income
World Bank 2002.

TODAYTODAY
 There is a general agreement thatThere is a general agreement that
making accessible more developmentmaking accessible more development
funding for poor countries in afunding for poor countries in a
controlled and incremental fashioncontrolled and incremental fashion
could benefit the world economy as acould benefit the world economy as a
wholewhole

TODAYTODAY
 There is a general agreement thatThere is a general agreement that
something must be done at thesomething must be done at the
international levelinternational level
 Kyoto, December 1997 could be aKyoto, December 1997 could be a
turning pointturning point

●● Yet in the global negotiations, theYet in the global negotiations, the
division between industrial anddivision between industrial and
developing nations is as deep as everdeveloping nations is as deep as ever
● There is a general agreement that● There is a general agreement that
without bridging North-South gap therewithout bridging North-South gap there
will be no real progresswill be no real progress
How to move ahead?How to move ahead?

 One way to ensure this is to follow aOne way to ensure this is to follow a
simple rule: the countries that emitsimple rule: the countries that emit
less receive somewhat more permits:less receive somewhat more permits:
A “reverse grand-fathering”allocationA “reverse grand-fathering”allocation
 Repeated across time, such a policyRepeated across time, such a policy
would compensate those who use thewould compensate those who use the
atmosphere judiciously and provideatmosphere judiciously and provide
incentives to abateincentives to abate

The Key IssuesThe Key Issues
•Allocation of rights on the use of the
atmosphere
•This is a question of efficiency as
well as equity
More on this in the lecture

How to resolveHow to resolve
the China-US Impassethe China-US Impasse
• New Financial mechanism
• New Technologies

Technology TransferTechnology Transfer
•Negative Carbon Market
•To increase clean energy
• Reduce carbon in the atmosphere

New Financial MechanismsNew Financial Mechanisms
• Based on Carbon Market
• Replicating Article UNFCCC
• Giving North and South what they
want

Program Lecture 2 Economic Returns From The Biosphere

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Program Lecture 2 Economic Returns From The Biosphere