(Co-authored with Lekha Chakraborty)
The Economics Nobel 2018, awarded to William Nordhaus of Yale University and Paul Romer of New York University, has put climate change on the centre stage of public discourse. The Sveriges Riksbank Prize in Economic Sciences was awarded on 8 October 2018, for his ground-breaking contribution in “integrating climate change into long-run macroeconomic analysis” (quoted from the Nobel committee). It is an acknowledgment and a signal that global community can ignore the warnings about climate change only at its peril.
Climate change is a long term global externality. For instance, the smoke and particulate matter from stubble burning in nearby States accentuate the smog in Delhi every year itself is a striking example of externality, which we can easily relate to. The photo recently posted in Instagram by singer Bryan Adams has powerfully captured the Lutyen Delhi and reminded us of last winter when Delhi hit the global new channels for the worst air quality in the world. The Air Quality Index (AQI) forecasts have already indicated the worsening pollution in the capital since last week. “Externality” is the jargon used by the economists to describe such phenomena, where there is a clear divergence between social cost and private cost. The effects of these externalities - goods or bads - are not accounted in the cost or prices and hence remain external to the system. Climate change is a bad and hence it is overproduced.
But, why is climate change, such a difficult issue to tackle? The reason is that climate is a public good. Financing a public good is a nightmare, as rightly shown by the mechanism design algorithms that people can reveal their demand “strategic” than “sincere” to avoid paying taxes. The propensity to “free-ride” is yet another. In fact, climate is an international public good. It satisfies the conditions of non-rivalry and non-excludability which define a public good. Non-rivalry means that a person enjoying good climate does not reduce its availability to another. Climate is non-excludable because one cannot be excluded from enjoying the benefits of clean air if it exists. It is international because it does not honour political boundaries. Incidentally, the Intergovernmental Panel on Climate Change (IPCC) published a special report on ‘Global Warming of 1.5o’ on the same day as the Nobel Prize was announced. It says that ‘limiting global warming to 1.5o would require rapid, far reaching and unprecedented changes in all aspects of society’.
Nordhaus’ analysis provides a template for us to act, especially Governments. Fiscal policy instruments can be used to spur the economy towards a greener path, spanning from carbon-related taxes, climate bonds and climate sensitive public financial management and budgeting. The contribution of Nordhaus’ is in developing integrated modelling frameworks – both DICE (Dynamic Integrated model of Climate and the Economy) and RICE (Regional Integrated model of Climate and the Economy) - for analysing climate change within economic growth. India was one of RICE’s regions. These models are to design optimal carbon taxes. India had implemented “ad hoc” carbon taxes prior to GST regime - with Rs 400 per tonnes - levied on the production and import of coal. What Nordhaus has designed is a much more scientific way to arrive at carbon taxes. His trick lies in finding the appropriate price of carbon which has to be translated into a carbon tax. If carbon tax is very low, it will lead to high emission and vice versa.
India is even more climate vulnerable than Nordhaus realized through his regional integrated models of climate change. Beyond Lutyen Delhi, we have had many recent incidences of nature’s fury including Koyna, Kashmir, Uttarakhand, Odisha and Kerala. Kerala is particularly vulnerable. The “blue economy” studies often highlight small island developing economies (SIDS) as most vulnerable nations to climate change. But Kerala is a crucial concern as the recent floods in Kerala was unprecedented and was of catastrophic proportions. In fact, Kerala has a unique geography being a tiny strip of land lying between the Western Ghats and the Arabian Sea. The width of the State varies between a mere 35 km to 120 km. And the State is home for 2.75 per cent of the total population living in 1.2 per cent of total land area. Like a tiny island nation, the entire State was affected by the floods making rescue and rehabilitation an arduous task. The flood displaced about five percent of the population of Kerala to relief camps. The cost of the floods is estimated to be about five percent of State GDP. The indirect costs are much more than these estimates. The Finance Minister of Kerala has mooted a cess on GST which is being proposed as a pan-India disaster tax or calamity tax which was discussed by the GST Council and the Committee’s report is expected on October 31st 2018.
Global warming and climate change are no longer a hoax. The devastating effects of climate change which the entire world is experiencing include, inter alia, floods, diseases, droughts, desertification, loss of crops and rise in sea level. It is posing a threat to biodiversity and life as such too. Instead of ad hoc winter discussions in Lutyen Delhi on poor air quality and ex-post planning processes on natural disasters in various parts of our country, what we urgent need is a political will towards integration of climate sensitive budgeting - adaptation and mitigation - within Public Financial Management. More than that, there is an urgent need to relook our approach towards economic growth itself, with minimum adverse impacts on the environment. Only then will we be able to turn around and walk back from the ‘Climate Casino’. In fact, Nordhaus’ Nobel winning contribution lies in giving us the least cost way of doing this.
The authors are Doctoral Fellow at Centre for Economic Studies and Planning (CESP), Jawaharlal Nehru University, New Delhi and an Associate Professor, NIPFP. This Column was published by Financial Express on October 23rd 2018.
The views expressed in the post are those of the author only. No responsibility for them should be attributed to NIPFP.