[This blog article, recently published by The Financial Times, was sent for republication to The Manila Times.]
THERE is no bigger or costlier mismatch between science and economics than on climate change. Scientists have for years seen environmental degradation and the resulting global warming as the biggest known threat to economic well-being. Yet economists have not integrated climate change and the environment in growth accounting that underpins welfare economics, nor recognized that the carbon intensity of economic activities is a roadblock to sustaining economic growth.
This neglect has grave consequences for sustaining prosperity, the agreements at the Paris climate summit notwithstanding. Indeed, progress will be severely compromised unless economists build in low-carbon measures in the policies and investments they routinely promote around the world. Even if belatedly, the economics profession must act.
As I argued in a recent post for Future Development at the Brookings Institution, we need to get back to basics. Economic theory is clear that unless spillover effects (or externalities) are priced or regulated, society will pay. So long as there is no price on clean air, businesses will continue to emit carbon without restraint.
To be fair, recent research papers have called attention to the punishing economic costs of climate change. And some economists have proposed carbon taxes to make emitters pay. But when mainstream economists model growth — which drives country policies — they do not account for emissions and their damages, thus sending faulty signals to the business community. Projections from the International Monetary Fund and international banks would have you believe that growth can continue indefinitely without the need for climate action. The annual meetings of multilateral development banks feature parallel sessions on climate change and on economic growth, with the latter making no reference to the former.
The problem goes further than just neglect. Economists in the main have not stressed that dealing with these externalities actually supports growth, rather than hindering it. Investing in physical capital, especially infrastructure, is widely seen as the biggest contributor to growth and poverty reduction. But growth policies have not promoted investments in natural capital in the same way that they have physical capital or even human capital.
For example, in the World Bank’s Doing Business index, a country can improve its ranking by lowering environmental protection. Recent proposals at the World Bank, and thinking at the new lenders for development, the Asian Infrastructure Investment Bank and the New Development Bank of the Brics countries, seek to weaken environmental and social safeguards that accompany infrastructure investments on the mistaken notion that this would speed growth. Another example is the continuing use by many governments of fossil fuel subsidies and the absence of carbon taxes.
The good news is that we can build on the positive actions being taken. India and Indonesia have started removing diesel subsidies, while China and India are expanding solar and wind energy. The US administration decided to reduce carbon emissions from power plants by 32 per cent below 2005 levels by 2030.
Some high-profile companies are doing their bit. Microsoft and Unilever are building carbon neutrality into their activities, Nestlé promotes zero deforestation, and Citigroup and Deutsche Bank are looking at the sustainability of the supply chains of the firms they finance.
Encouraging though this is, all business leaders must play their part by insisting that a neutral carbon footprint accompanies every investment that their companies make, analogous to other requirements such as having a tax registry. International banks should stop financing or supporting coal projects, just as the Rockefeller Brothers Fund announced last year that it would divest its holdings in coal and tar sands. Instead of investments in fossil fuels, financiers should support renewables in ways that provide energy to all those who currently do not have access.
To underpin these efforts, the economics profession must relentlessly factor in the cost of climate change and benefits of action, just as it did with the gains from investment in education and financial infrastructure. Economists influenced open trade, agricultural price liberalisation and macroeconomic stability: they must do the same for climate change. And in doing so, they must develop measures of so far hard-to-estimate climate impacts, and integrate them into the growth calculus for policy.
It is striking that delegates from 195 nations at the Paris summit agreed to keep the world temperature within 1.5 degrees centigrade above the pre-industrialization level. But they could not match that with binding commitments to measures that would deliver the needed carbon targets because of the misguided notion that climate measures are a drag on future growth. The economics profession which helps guide growth and well-being must counter this premise in time.
Vinod Thomas is Director General, Independent Evaluation at the Asian Development Bank and former Chief Economist for Asia at the World Bank.