STRATEGY
Bruce McRae is a former Assistant Deputy Minister in the provincial government with the Ministries of Economic Development, Energy and Mines, and Forests. Don Wright is a former Secretary to Treasury Board and Deputy Minister in the Ministries of Forests and Education. Both have long experience in public policy development in British Columbia . They both have Ph.Ds in Economics and, in addition to their public service experience, have spent time in academia and private industry.
CLIMATE CHANGE: A STRATEGY FOR BRITISH COLUMBIA
Bruce McRae and Don Wright *
- Part I: British Columbia 's Role
- Part II: Guidelines for a BC Strategy
- Part III: The Case for a Carbon Tax
- Part IV: Some "Do's" and "Don'ts"
Part I: British Columbia 's Role
February's Speech from the Throne committed British Columbia to serious targets for reducing greenhouse gas (GHG) emissions. Premier Gordon Campbell is to be congratulated for positioning British Columbia as a leader in addressing the issue of climate change.
The overall reaction to the Premier's plan has been positive, but some have been critical that it appears to promise little immediate action, a concern heightened by the lack of new spending proposals in the following week's Budget. The release of a new energy Plan in late February gave a more detailed outline of the initial steps in developing BC's climate change strategy. Still, some argued that it was not enough.
Contrary to these critics, we think the government is on the right track. The implications of reducing BC's GHG emissions will be very significant. It is essential that we take the time to get the strategy right. Unless we do, it is unlikely we will be able to sustain public support for concerted action.
We are not climate scientists, but we do have long experience in public policy development in British Columbia , and we have, we believe, an appreciation for what will work and what won't work in this important area. In this and subsequent op-ed articles, we aim to set out a role for British Columbia in promoting global action on climate change; and discuss the kinds of initiatives that could be adopted here to meet our global responsibilities.
As is well known, climate change is a problem of the "global commons". This means that unless everyone agrees to take action, the actions of any individual jurisdiction may be for naught, thus reducing the incentive for anyone to do anything. British Columbia is small. This is not a reason not to act. We should be willing to take a leadership role, but prudence suggests we shouldn't get too far ahead of the rest of the world.
Chances for success are best if we use diplomacy to complement whatever action BC takes within its own borders. Our influence is limited. But, skillfully handled, we may have more than we think. We have an important role within Canada . And by working with neighboring U.S. states we may play a small role in helping to re-orient U.S. policy, if not immediately then after 2008.
The cost of addressing climate change has to be seen as a moral obligation on the part of the current generation and its immediate successors, in particular the better off members of these generations, to future generations, in particular, the least well off members of those generations who, otherwise, stand to be most heavily impacted by global warming.
In assessing the strength of this obligation there are competing considerations. While passing on higher carbon concentrations in the atmosphere is not a good thing to do, we should bear in mind that we are also passing on better infrastructure, a greater stock of capital and useful knowledge (including knowledge of energy alternatives) that may enable future generations to attain higher living standards and a better ability to deal with climate change issues.
For this reason, most economists call for a "ramp up" approach in which successive generations take on increasingly more of the burden. Indeed for the poorest countries in the world today there is a persuasive moral argument that their economic development should come first.
This is not an argument for complacency. Advocates of the "precautionary principle" make the valid point that we cannot necessarily always count on the growth of physical capital and the advancement of knowledge to offset the impacts stemming from the consumption of our natural or environmental capital.
On balance, this says that we need to deal with the challenge as a sequence of decisions taken over a fairly long time frame. We need to start with a better framework for global action than is presently provided by the Kyoto Protocol. We need broad agreement on ambitious targets, and realistic plans to achieve them over a suitably long period of time. And we need to build in milestones and opportunities for course corrections as new information becomes available.
What does this all mean for British Columbia ? We will be exploring that question in more detail in subsequent articles. But we want to conclude this article by setting out a few general principles that we think should guide any strategy.
First, we need to accept that there will be a cost. Although we have above advocated some caution, we are certainly not suggesting reliance only on so-called "no regrets" policies that are primarily justified by other considerations. For example, we broadly support the program set out by Sir Nicholas Stern in his recent report for the British government, a program that would, in its early years, cost about 1.8% of GDP in the developed countries or some $700 per person per year in British Columbia . Our main point is that we need to be honest and transparent about this cost if we hope to sustain public support.
Second, we need to ensure that we achieve GHG reduction targets at the least possible cost. This sounds obvious, but it is not. We can expect any number of "good" ideas to come onto the table-many, no matter how good they appear, will actually be poor ideas that should be screened out. We will touch on some of these in future articles. We can also expect various interest groups to "blame the other guy" and try to force more of the burden onto others. This temptation should be avoided.
Third, we should, as much as possible, rely on market mechanisms to find solutions. Government must set goals and establish a sound policy framework-after that we should let markets work. This will be a major theme in future articles.
In tomorrow's article we will explore in somewhat more detail where these principles lead us in designing BC's climate change policy.
Part II: Guidelines for a BC Strategy
In our previous article ("Climate Change: British Columbia's Role", published in yesterday's edition), we reviewed the case for BC taking a leadership role in reducing greenhouse gas (GHG) emissions, and we suggested some general principles to follow in taking that leadership role. Those principles were:
• Be transparent about the costs that reducing GHG emissions will entail;
• Achieve GHG reduction targets at the least possible overall cost; and
• Rely as much as possible on market mechanisms to find that least cost solution.
In this piece we want to explore further where these principles lead us in designing a BC GHG reduction strategy. We believe there are four important guidelines for developing that strategy.
First of all, it is essential that all sectors contribute to the solution if we are to meet reduction targets at the least possible cost. The contribution that each of the major sectors makes to BC GHG emissions is provided in the chart below. A GHG reduction strategy that requires reductions to come disproportionately from one or two sectors (e.g. "industry") will be more costly than one that requires all sectors to contribute.
BC Greenhouse Gas Emissions by Sector
In any one sector, the costs of reducing GHG emissions by 10% will be relatively small; the costs of reducing by a further 10% will be somewhat greater as most of the "easy" savings will have already been used up; the next 10% will be even more expensive, and so on. Consequently, the cost of a reduction of a certain aggregate amount will generally be minimized if the reductions are spread across all sectors (though not necessarily in a strictly proportionate way.)
While it may sound appealing to make "industry" pay for everything, it is important to understand that we all will pay indirectly most of the costs imposed on industry - through higher prices, lower resource revenues, reduced employment opportunities and lower wages - reinforcing the point above that the focus should be on minimizing total cost.
There is one sector in particular which must be a major source of GHG reductions - the transportation sector, which includes personal vehicle use. It will be virtually impossible to achieve significant GHG reductions without significant reductions in the transportation sector.
Secondly, putting taxes or market-oriented restrictions (e.g. "cap and trade") on GHG emissions will generally be more cost effective than subsidizing low GHG-emitting energy sources or activities.
If government puts a tax or market-oriented restrictions on GHG emissions "the market" will go to work. The cost of energy will rise, which will provide businesses and households with an incentive to consume less and demand more fuel-efficient vehicles, equipment, appliances and buildings. Businesses will pursue technologies that result in less GHG emissions. And lower GHG-emitting energy sources will become more competitive with conventional fossil fuels.
If government chooses instead to subsidize low GHG-emitting energy sources or activities, much of the market behaviour described above will not happen. Such subsidies will generally have the effect of making energy cheaper, so businesses and household will consumer more, not less, energy. There will be no general incentive for more fuel efficient vehicles, equipment, appliances and buildings unless they are explicitly subsidized. And only those low GHG-emitting sources of energy that are explicitly subsidized will become more competitive.
As a general rule, therefore, the tax or market-oriented restrictions approach will be significantly less costly than the subsidies approach. It goes without saying that these approaches are preferable to "command and control" style regulations.
Thirdly, if subsidies are used, they should be focused in areas where the market does not work well for some reason or another. For example, the private sector will generally under-invest in pre-commercial research and development. As another example, there may be important "demonstration effects" from subsidizing early implementation of new technologies such as hybrid cars.
An important point here is that such subsidies should be viewed and designed as "one-time" or "temporary." One of the great risks of subsidies is that they can create vested interests that will want the subsidies to continue long after there is any public policy rationale for them.
Finally, it is important to account for the "hidden costs" of different approaches. Our objective is to reduce GHG emissions at minimum cost. It is relatively straightforward to track the explicit costs of taxes and subsidies. Costing regulations requires somewhat more effort, but there are accepted methodologies to provide reasonable estimates. But there can be "hidden costs" and it is essential that we track these as well. A key example is the possible hidden cost of "bio-fuels," something we will have more to say about in a subsequent article.
Tomorrow we will turn our attention to making the case for the measure that we believe should be at the centre of BC's climate change policy.
Part III: The Case for a Carbon Tax
In the previous two days we have discussed some general principles and guidelines for designing strategy for reducing BC's greenhouse gas (GHG) emissions. Today we start considering which measures are best for our "toolbox."
Our overall goal should be to achieve any given level of GHG emission reduction at the least overall cost to BC society. In our opinion, the best single measure to achieve this would be a broad-based tax on virtually all GHG emissions - a so-called carbon tax. This would be a tax on the use of all fossil-based fuels proportionate to their respective GHG emissions, plus a tax on any GHG emissions which result from industrial processes, such as the flaring of natural gas.
We emphasize that the tax would be on the use of fossil fuels, not on their production for a very pragmatic reason. If the tax was on production rather than use, companies and individuals would simply source fossil fuels from outside BC, resulting in no net reduction in GHG emissions, while the fossil fuel industry in some other jurisdiction would benefit at the expense of ours.
The core issue we are facing is the level of our GHG emissions. By making such emissions more expensive to those responsible for them, we would set in train a host of market responses that would result in a cost-effective reduction in GHG emissions. Firms and individual will have an incentive to avoid the tax by reducing the activity which generates the emissions, substituting activities with lower emissions, and investing in more fuel-efficient or alternative-fuel vehicles, equipment, appliances or buildings. Firms will have an incentive to develop new technologies that reduce emissions.
Some activities may not appear to result in a high level of GHG emissions but in actual fact do because the inputs of those activities result in high emissions levels. A good example of this is the very high use of energy, most of it GHG-emitting, required to grow the grain and power the distillation process in the production of grain-based ethanol. A carbon tax would result in such inputs becoming more expensive, so that the cost of the activity increases. In this way a carbon tax ensures that many "hidden costs" of various activities become clear, and will be factored into the decisions of individuals, firms and government.
The impact of a carbon tax will lead naturally to many outcomes which would otherwise require a plethora of micro-managing regulations. Manufacturers will offer more fuel-efficient or alternative-fuel vehicles and appliances because that is what purchasers will demand, not because of government-driven regulations. Low or zero GHG emitting energy sources will supply an increasing proportion of energy because they will become more competitive, not because government requires their use. The public will demand, and government will have an incentive to support, better public transit. The public will be more inclined to support more densely planned communities as they realize the energy savings that such communities will provide, not because the provincial government tells local government that is what they have to do.
We are not naïve. We champion such a broad-based carbon tax knowing full well that it will entail political challenges. People don't like taxes, and consequently government will be reluctant to be seen as imposing new or higher taxes. But the institution of a carbon tax need not lead to an overall increase in taxes. The carbon tax could be offset with reductions in other taxes - taxes that reduce our international competitiveness, or taxes that are regressive because they fall disproportionately on lower income people.
For the reasons that we outlined yesterday, achieving the same level of GHG emissions reduction through subsidies for low or zero GHG sources of energy will generally be more expensive overall than through well-designed tax measures. This would mean higher levels of other taxes or a reduction in government spending in other high priority areas such as health care and education.
We think an additional point is important here. The ability of the government to make the case for a carbon tax, and the willingness of the public to accept it is an important litmus test of the durability of the public support for reducing GHG emissions. Unless the public understands and accepts these costs, it is unlikely that government will be able to sustain the support for the reductions through economic downturns and ongoing expectations that government responds to other priorities for the public.
Such a tax need not initially be very high. In fact, it is probably prudent to start out at a relatively low level. From that point, the tax could be raised gradually every year. This would ensure that the tax would not impose any onerous adjustment costs, but send a clear signal to individuals and firms to make decisions that will significantly lower their GHG emissions in the future.
Starting the tax at a low level would also be consistent with the point made in our first article that we should watch that our leadership does not get too far ahead of the rest of the world. In particular, we need to be careful that we do not unduly jeopardize the competitiveness of our industry. Ideally, our move forward on a carbon tax will be quickly followed by other jurisdictions.
We clearly believe that, over the long run, a well-designed carbon tax should be at the centre of BC's climate change strategy. There are, however, measures that can complement the carbon tax. And there are some measures that we think we should avoid altogether. We will examine those tomorrow.
Part IV: Some "Do's" and "Don'ts"
In our previous article we argued that the centerpiece of a sound GHG reduction strategy should be a carbon tax.
We expect that the case for a carbon tax will become more evident over time; and that, in due course, the global community will see fit to adopt one. But we recognize that, initially at least, most of the focus will be on other policy instruments. So, today, we want to discuss the types of policies that are now in the spotlight with a specific emphasis on those that we think should be avoided.
The main alternative to a carbon tax is a so-called "cap and trade" system in which total emissions are capped at a certain (lower) level; individual facilities are issued emission permits consistent with the cap; and those facilities are allowed to create and trade emission reduction credits. Facilities which can achieve greater emission reductions than required have an incentive to make those reductions and trade the resultant credit to other facilities that, otherwise, could only achieve their required reductions at high cost.
In itself "cap and trade" is a viable, market-oriented system that has much to commend it. The problem is that a "cap and trade" system can only apply to a modest share of total emissions-the emissions from large industrial facilities with accurate monitoring systems. Emissions from the rest of society-e.g. the transportation, residential and building, agriculture and other sectors-must be addressed through other means. This is the chief disadvantage of "cap and trade" compared to a carbon tax.
In the absence of a carbon tax, emissions from these uncovered sectors must be controlled through some combination of direct regulation or incentive program; and this is where problems can arise.
Before turning to the problems, however, we should note that there are several areas where direct regulation can work satisfactorily. We are thinking here of standards for electricity generation (such as B.C.'s just-announced zero net GHG emission requirement for new electricity generation); efficiency standards for vehicles, buildings and appliances; improved public transit and urban planning; and other similar types of programs.
It is clear that action in all these areas is essential to any GHG reduction strategy. We point out, however, that with a carbon tax in place these reductions would take place "naturally" and without the inevitable inefficiencies that accompany regulatory initiatives.
We also think that certain kinds of subsidy make sense, for example for pre-commercial alternative energy technologies or for developing small scale carbon sequestration solutions.
So much for the "do's"; what about the "don'ts".
One device, much discussed, is the notion of a carbon offset credit. These credits are fine in principle; but, we are skeptical they can be made to work effectively. Offsets are intended as an entrepreneurial, market-oriented alternative to direct regulation in the "uncovered" sectors. Projects that reduce GHG emissions (or increase carbon "sinks") can claim a credit that can be traded, e.g., to other firms subject to a regulatory cap. The problem lies in ensuring that the claimed credits represent real reductions. This is much harder than it sounds. Bureaucratic procedures to certify that reductions are real will dampen the spirits of any entrepreneur; but, without them, we will end up giving credit to what some have called "hot air". It would be most unfortunate if we learn two or three decades from now that a significant portion of the reductions we thought we had made had not materialized. This is not to deny a role for valid offsets. We do think, though, that government should ensure that sufficient due diligence is done before placing any great weight on this approach to meeting its objectives.
We noted above that certain kinds of subsidies make sense. Some don't. Small, temporary subsidies for alternative energy production or for hybrid car purchases can, perhaps, be justified for their demonstration effect. On the whole, however, these subsidies distort market incentives-remember, the objective is to reduce GHG emissions, not to increase hybrid car purchases-and spend taxpayer dollars that could be better used for education, healthcare or for protecting low income households from the adverse income effects of higher energy prices. There are better ways.
One point worth emphasizing in this regard is that premium prices paid by BC Hydro for "green power" do not constitute a subsidy-rather, in offering a premium BC Hydro is behaving as if it were already subject to a carbon tax. If on this basis it is economic to utilize wood fibre damaged by the ongoing mountain pine beetle epidemic for electricity generation, or to utilize other alternative energy sources, the outcome would be helpful in dealing with the socio-economic implications of the epidemic as well as in addressing climate change.
The case for using wood waste to generate electricity, or perhaps to generate cellulosic ethanol, is in marked contrast to the case for some other types of "bio-fuels" - bio-fuels derived from plants grown on lands with higher and better uses. In an earlier article we warned that it is essential to track all costs of alternative approaches, including "hidden costs." The significant increase in the production of grain-based ethanol in the United States has already resulted in an increase in world food prices. The increased demand for palm oil for use in "bio-diesel," as another example, is reported to have led to conversion of Indonesian rain forests to palm oil plantations. Ironically, the conversion has been achieved through burning the forests, which has resulted in the release of a significant amount of carbon dioxide into the atmosphere. Let's not repeat those mistakes in BC. We have relatively little agricultural-quality land in BC. Let's keep it focused on growing food.
In concluding, let us repeat that Premier Campbell's commitment to arresting global warming is most welcome. We hope that over the past week we have been able to provide some useful advice that will enable British Columbia to make and sustain a meaningful contribution to the goal. The pursuit of ambitious targets with a common sense approach is a strategy that minimizes costs and warrants the support of all our citizens.
* The views expressed in this piece are solely those of the authors and do not represent the views of any organization. Bruce McRae may be reached at gbmcrae@telus.net ; Don Wright may be reached at don.wright@shaw.ca .
