Saturday, March 27, 2010

Thoughts On Global Heating, Ctd.

Last week The Economist did a comprehensive briefing about climate change science and conflict that got me thinking about an economics talk I saw last year.  Much of the debate over climate change pits those who believe it is real against those who do not.  The only way to completely settle this issue to just wait and see what happens, a risky proposition.  To transcend this stagnant debate, we should simply stop talking about probabilities altogether and just look at the different possible scenarios.  

For the sake of argument let's say there is a trade-off between fighting climate change and potential economic output: if the world acts to stop the worst environmental effects, then it loses potential GDP growth.  If the world does not act, then it realizes this potential GDP growth.  With no thought to probability, climate change is either real or not real.   In this model there would be four scenarios:
  • Scenario 1: The world acts, climate change is real.  The world loses potential GDP growth but the maximum negative effects from climate change are mitigated.
  • Scenario 2: The world acts, climate change is not real.  The world loses potential GDP growth and experiences minimal environmental effects.
  • Scenario 3: The world does not act, climate change is real.  The world realizes potential GDP growth but the maximum negative effects from climate change are unmitigated.
  • Scenario 4: The world does not act, climate change is not real.  The world realizes potential GDP growth and experiences minimal environmental effects.
Scenarios 1 and 4 are good "fits": given what happens with climate change, wealth is maximized.  These can't tell us very much about whether we should act or not act.  Scenarios 2 and 3, however, result in big losses and are pivotal in determining the best strategy.  It's immediately apparent that what really matters in these scenarios is the difference in magnitude between potential GDP output and potential negative environmental effects on GDP caused by climate change.  By environmental effects I mean destruction that can be measured in dollar terms, like droughts.  Without considering probabilities, if environmental effects on GDP outweigh potential GDP growth, then net welfare losses in scenario 3 are greater than net welfare losses in scenario 2.  Conversely, if potential GDP growth is greater than environmental effects, scenario 2 is worse.  This is important because it shows how to make informed decisions based purely on minimizing the impact of the worst-case scenario, even if we don't know how likely each scenario is to occur.  Say what you will about climate change doomsayers; few will deny that their worst-case story packs more horror than does their oppositions', signaling that scenario 3 is worse than scenario 2.  If we can't decide on the probabilities, then we must agree to put them aside and make decisions based on potential outcomes.

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