Common Tragedies

Thoughts on Environmental Economics

The interplay between an emission price and technology policy

Posted by Daniel Hall on December 15, 2007

I think we have been fairly clear here at CT about our thoughts on the role of technology policy within climate policy. It’s a somewhat nuanced position; I’d summarize it thusly:

The government should support energy technology R&D, and particularly fundamental research (i.e., basic and applied research as compared to development and deployment activities). The principal rationale for such support is that there are spillovers — large, broadly-dispersed societal benefits — associated with research that cannot be captured privately by firms; thus, there are large under-incentives for firms to invest in the socially optimal level of R&D. At the same time, the core feature of any approach to reducing greenhouse gas emissions should be an emissions pricing policy: a carbon tax or a cap-and-trade program. Such a policy is the most cost-effective approach when fundamental change must be made to complex and disaggregated systems such as the energy infrastructure. Further, a pricing policy will itself boost private sector R&D by increasing the returns to innovation, particularly in areas such as development and deployment where there are fewer market failures. Thus, R&D policy is a necessary complement, but not a substitute, for an emissions pricing policy.

Although those are my words, I think my co-bloggers would broadly agree with the sentiments. There are certainly other thinkers out there, however, who put much more emphasis on the role of technology R&D — they feel that it should be the core of climate policy and that emissions pricing policies are peripheral, unnecessary, or perhaps even counter-productive. In general I feel that these thinkers are underestimating the innovation that will occur under a pricing policy and overestimating its transaction costs. However, there are certainly better arguments for such an emphasis than others. Paul Klemperer gives one of the best I have read at VoxEU:

Developing countries are not going to give up the immediate aspirations of their (often growing) populations for climate-change benefits that are largely in the future. Worrying about preserving the environment for our great-grandchildren is a luxury developing nations do not have. …

[M]ore R&D into clean energy is probably the highest priority of all. Finding a clean energy source that is cheaper than those currently available is the only politically-plausible way of curbing continuing growth in developing nations’ emissions.

Further, he makes two insightful comments about why the rich world should develop new nuclear and CCS power facilities:

First, whether we like it or not, China (and India and others) are going to continue to develop nuclear energy. So unless the West continues to develop it too, the safety and storage and handling issues will be resolved in environments with less democratic accountability than in Europe and the US, and with more pressure to take shortcuts than in richer countries.

Second, China (and India and others) will continue to exploit their enormous coal reserves. So we urgently need research and development on lower cost Carbon Capture and Storage (CCS) technologies to remove coal plants’ emissions. The UK government is right to subsidise a demonstration CCS plant. It should probably subsidise several. It is also right to insist that the technology chosen is one that can be retrofitted to traditional plants. China is building one such plant every five days.

I agree that the rich world’s governments should be researching technologies now that the developing world can use tomorrow. But I wish he would have been more clear that an emissions pricing policy still has an important role to play, and technology policy cannot go it alone. For example, there are practical limits to how quickly R&D investment can be ramped up: an immediate doubling of energy R&D dollars might do less to stimulate new innovation than serve to push up salaries in a field that requires long training. Further, the reality is that private sector R&D investment is always going to be far larger than government R&D; Professor Klemperer, however, is quick to see private disincentives for R&D at every turn:

Businesses know that when an innovation is sufficiently important, the innovator gets little of the benefit: the developers of drugs for AIDS, and of vaccines for Anthrax and bird flu were threatened with compulsory licenses in many countries (including in the United States) until they “voluntarily” licensed their innovations cheaply.

An emissions pricing policy, however, is exactly the opposite of government appropriation of private research! Rather, it signals to businesses that emissions reductions are genuinely valuable, and there is profit to be made if they can find better ways to reduce.

I think it’s perfectly reasonable to increase government support for R&D out of a desire to subsidize long-term reductions in the developing world. But such reasoning should strengthen, not diminish, our resolve to have an emissions price as the central feature of climate policy.

One Response to “The interplay between an emission price and technology policy”

  1. Rich Sweeney said

    I think the argument for waiting for technological innovation to occur before capping carbon is not that the two approaches are substitutes, but rather that restricting carbon too soon could prove unnecessarily costly. While marginal innovations will probably be expedited by putting a price on carbon, the kind of large technological shifts we’ll need to really solve global warming will almost definitely be the result of large government expenditures on nascent technologies. In these cases, no incremental carbon tax is going to meaningfully hasten their advent, as the constraints are time and public science research.

    Now lets assume that you buy all of that, and that you agree that we know what technologies we need to develop and that the constraints are really just time and publicly funded research. If these technologies would dramatically reduce the costs of curbing carbon emissions, then capping carbon in their absence might be an unnecessary economic burden. After all, what matters is the global stock of emissions at some point in the future, not the annual flow.

    This doesn’t mean that I think we should wait to cap carbon, but the notion that it’s necessarily optimal to restrict emissions while waiting for technological innovation to occur seems a bit more complicated to me. If you take CCS for example, the constraints do appear to be largely temporal and governmental. The government is going to have to do an enormous geological survey to determine if and where we can even store the carbon we capture. And even if a technological breakthrough occurred tomorrow, we’d still have to wait a number of years while trial plants were tested. Of course this also highlights the riskiness and uncertainty inherent in any one approach, which is why it might be best to stick with the market after all. Capping carbon may seem costly in the short run, assuming perfect technological foresight. But these costs would be insignificant in comparison to the costs of waiting for a government backed winner to emerge, only to learn later that the favored approach was a dud.

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