Green Finance Advisor of Friends of the Earth (HK)
In a previous article The Financialization of Negative Externalities, this blogpost argued for an adoption of Coasean bargaining in attaching a measurable, fair and standardized financial cost to negative externalities that leads to global warming in the normal course of economic activity. In attaching a financial cost, the market mechanism takes over, leading to incentives for economic participants to adapt, innovate, and wean itself from fossil fuel energy sources, and provide a real and quantifiable economic basis for moving towards a carbon neutral economic system. Often times the theoretical basis for such arguments are sound, however when it comes to application, regulators and industry participants often cite lack of evidence or impracticality or other unforeseen difficulties such as unequal impact to lower income countries or demographics. Taken together, there is considerable inertia in implementing policies that can mitigate the effects of global warming which in order to meet targets of carbon neutrality, ought to be implemented as early as possible. It is therefore encouraging that Goldman Sachs and Bill Gates recently published articles citing the practicality of quantifiable financial measures of negative externalities as one of the tools to tackle the immense challenge of climate change.
Exhibit 1: The Cost Curve of Decarbonization Shows Many Low-Cost Investment Opportunities, but Quickly Becomes Steep
Exhibit 2: A Carbon Tax of $50 Would Lower Emissions by Around 25%
Exhibit 3: Empirical Studies Find Similar Effects of Carbon Taxes on Emissions
In the Goldman Sachs research, the team finds that the marginal cost of replacing current power generation in the United States from fossil fuels to gas & renewable alternatives to be low and represents one of the low hanging fruits in the first steps towards reducing carbon emissions. The team also modelled a mere $50 per metric ton of carbon tax would have the effect of reducing CO2 emissions at 2018 levels by 25% and a tax of $100 per metric ton would lower this further by 45%. Moreover, these estimates are supported by empirical studies from jurisdictions that implemented carbon taxes in Europe and Canada (Hatzius, J., Struyven, D., Bhushan, S., Milo, D., 2020).
Similar to the carbon tax argued by the Goldman Sachs team, Bill Gates advocates for a Green Premium as a measure of our progress toward eliminating carbon emissions as well as a guide to action to identify where the biggest gaps are and thus where innovation is needed. Gates defines the Green Premium as the difference between the cost of the existing fossil fuel source of energy and its clean alternative. One notable study Gates cited is that decarbonizing Europe’s power grid by 90 to 95% would only cause rates to increase around 14 euros per month for a typical household in the European Union. In the United States, the cost would be an increase of $18 per month for the average home. These are striking findings as it suggests only incremental increases of costs will have a significant reduction in carbon emissions. Gates suggests three levers to reduce Green Premiums and thus the adoption of the clean alternative. (i) Governments to use policies to increase the cost of the carbon-based production method, similar to the carbon tax proposed by the Goldman Sachs team and or to make the clean alternative cheaper; (ii) Companies and investors to commit to buying an using cleaner alternatives, invest in research and development, and support for clean-energy entrepreneurs and startups; (iii) Individuals can help by choosing the cleaner alternatives, thereby incrementally increasing the market and demand, encourage innovation and ultimately reduce the price and increase affordability of clean alternatives (Gates, B., 2020).
In summary, the basis for applying Coasean theorem to tackle the challenges of climate is not only theoretically sound but also has practical basis. Of course, for large economic polities such as the United States and the European Union, it is understandable that incorporating Carbon Taxes or Green Premiums may encounter more political hurdles to achieve implementation as the potential cost for ill-conceived or poorly implemented policies may be quite significant. However, for us in Hong Kong, we have prided ourselves as a highly developed and nimble economy, the costs of missteps will be manageable given our relatively small economy. Moreover, seeing the success achieved in Canada and Scandinavian countries with the implementation of the carbon tax in achieving reduction in carbon emissions, the likelihood of not achieving carbon emissions reduction should be relatively low. Thus, our government should adopt measures of carbon taxation and or green premiums and serve as a leading example in the Asia-Pacific region in the global charge towards carbon neutrality, the eventual success will only serve as another case study for global leaders to take reference and further push the needle towards the full adoption of green policies.
Gates, B., 2020. Introducing the Green Premiums, Gates Notes
Hatzius, J., Struyven, D., Bhushan, S., Milo, D., 2020. Mitigating Climate Change via Taxes and Subsidies, Goldman Sachs Global International Research
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