Is government action worse than global warming? Why policy nihilism may be the only rational response to climate change.

• Author: Bailey, Ronald
• Position: Columns

WILL THE SOLUTION to global warming be worse than global warming itself?

Man-made global warming occurs as a result of burning fossil fuels, which releases carbon dioxide into the atmosphere. It's a negative externality--a spillover from an economic transaction that harms parties not directly involved in the transaction. In this case, the carbon dioxide released into the atmosphere is thought to be boosting temperatures, raising sea levels, and having other effects on the climate that people must adapt to (by using more air conditioning, switching crops, and so forth). Because of these spillover effects, the argument goes, the price of fossil fuels does not reflect the full cost of consuming them.

Ideally, once the full costs of man-made global warming are calculated, consumers, businesses, governments, and international agencies can adopt policies that take those burdens into account. The two policy options most widely discussed for setting a price on carbon dioxide are carbon taxes and cap-and-trade markets. Carbon taxes impose a charge on fossil fuels that is supposed to represent the negative externality associated with the emissions they produce, thereby nudging markets toward cleaner energy sources. Under a cap-and-trade scheme, the government sets a limit on emissions and divides the total among businesses by issuing permits. Enterprises that can cheaply abate their emissions will have some permits left over, which they can sell to other emitters that find cutting back too expensive. In this way, a market in pollution permits is supposed to find the cheapest way to cut emissions.

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The goal of both approaches is to make polluters pay for the costs they impose on others. But they work only if those costs can be accurately assessed. In the real world things are never so simple. Estimates of the potential damage caused by global warming range widely, depending on predictions about how the climate will react to extra carbon dioxide, future economic growth, and, most crucially, the discount rate.

The discount rate reflects the time value of money, the fact that most people prefer a dollar today to a dollar a year from now. If someone is willing to forgo a dollar today in exchange for $1.10 in a year, his annual discount rate is 10 percent. To calculate how much we should spend to avoid damage caused by climate change, we need to know how much the dollars saved in 2100 are worth in terms of dollars forgone today...