Feb 5, 2008 – An Actuarial View on Climate Change

This post is a summary of my personal views about climate change. I have tried as far as possible to use actuarial thinking to form opinions based on the science and data. Some comments reflect a degree of frustration with the way our politicians are handling this issue.

A few main points are listed below followed by more in depth discussion:

1. CO2 was not seriously perceived as a potential problem until the post-war economic boom was well underway. By the time the danger was recognized, our society had become addicted to rapid economic growth powered by fossil fuel consumption. The addiction to fossil fuels (as recently admitted by George Bush when he stated that the US is “addicted to oil”) has warped our perception of the issues.

2. Risk is being misperceived on a large scale. There are parallels with other situations familiar to us from an insurance point of view e.g. asbestos. Psychological biases such as the availability heuristic and denial may be partly causing this.

3. There is a danger in continuing to focus on maximizing economic growth instead of switching strategy to minimize risk. A parallel can be drawn with Northern Rock. Rapid and successful growth for years, followed by collapse, arguably caused by a failure to change strategy.

4. The changes needed are so radical that only massive government action can make a real difference. The British government are making all the right sounds but are not taking enough urgent action. Recommendations for personal action should be primarily political – write to your MP, ask for a stronger climate change bill, lobby for more aggressive action, support new laws, taxes and restrictions etc.

5. Massive engineering projects (at huge cost) may be needed to solve the problem. The scale of action needed is huge. There is currently not enough sense of urgency; even the CBI point this out in their recent report on climate change.

Why actuaries may have a good insight into climate change issues
I believe that actuaries should have a better insight into the issues than many others, for several reasons, for example actuaries are used to dealing with tails of distributions. Also actuaries try to base their conclusions upon a clear headed view of the data free of psychological bias, even if it makes them unpopular.

No government of any large country is yet taking this seriously enough. They seem to be content to run massive risks with our future – much larger than any insurance company would consider. I think that at the moment they are locked into thinking in a way that is outdated, always constrained by what is “politically possible”, and they just haven’t thought deeply enough about the issues.

Surely this is now an emergency situation? I believe that things will move quickly now (the accelerated melting of polar sea ice is a signpost, one recent study estimated the North pole could be ice free in the summer by 2013 or even sooner). It will become obvious that this is not a problem for future generations, it will have to be dealt with within the next few years. We will either solve the problem within our lifetimes or we will see it spiral out of control.

I can easily imagine a situation where the carbon sinks start failing badly (for example, from a rapid increase in forest fires and die off of vegetation due to summer drought). The rate of increase of CO2 concentration would accelerate. We would then desperately try to cut back on CO2 emissions. However, if enough positive feedbacks had been triggered, a cutback in anthropogenic greenhouse gas emissions would no longer have much effect. Perhaps the horror of this situation is so great that we don’t really believe it could happen?

Is economics the best way to approach climate change?
As a separate document I have written some comments on the Stern Review on the economics of climate change.
The commentary attempts to show how Stern’s conclusions do not logically follow from the body of the report.

So far economists have carried out much of the debate about climate change. I would argue that it is not primarily an economic problem, or at least that the problem is with a limitation in conventional economics. Economics is a social science, it studies the interactions of humans with each other. Elements such as pollution are “externalities” and have to be added in to the analysis. The primary issue in this instance is a constraint in the physical world, not an issue relating to the economic interaction between people.

In his review of the economics of climate change, Nicholas Stern said that climate change is the biggest market failure the world has ever seen. Since the primary function of economics is the study of markets, then is it not fair to say that climate change is the biggest failure of conventional economics? Stern does a good job of thinking around the issues and recognizing that this is unlike any other economic problem. He recognizes that the normal tools of economic analysis, such as a discount rate based on the rate of investment return, do not necessarily apply when looking at the fate of the whole planet. I would go further and say that economics is not the right starting point for thinking about the problem.

The fundamental problem is that the exponentially growing world economy is bumping up against the limits of the finite physical world. There is an apposite quote by the philosopher and economist Kenneth Boulding “Anyone who believes exponential growth can go on forever in a finite world is either a madman or an economist”.

The starting point of any discussion of climate change should be the physical world, based on science. We should first understand the limits of what is possible. Then we should decide how much risk we are prepared to take. Only then do we ask the economists, what is the best and cheapest way to achieve our goals. The sequence then becomes:

1. Decide that we want to preserve the world as far as possible as it is, preserve our food supply and prevent a large rise in sea-level and changes to weather patterns such as the monsoon.

2. Find out what is the maximum level of GHG we can allow to accumulate in the atmosphere before there is an unacceptable level of risk that these objectives will not be met.

3. Determine what are the cuts needed to stabilize at that level.

4. Use the economists to engineer the change in the economy to achieve the objectives. The economists’ role is to find a way to change the economy rapidly enough to reach the goals while avoiding economic or social collapse.

Right now it feels as though the tail is wagging the dog. The discussion is all about the cost of combating climate change. I want to keep the world as it is. I don’t want a different planet. I don’t want an economist telling me this or that target costs too much. If it comes down to a choice between reduced wealth or protecting the climate, then I want to at least have a debate.

Risk vs Growth
In researching this I came across the website of a French energy consultant called Jean-Marc Jancovici. He has some good essays on climate change and energy related issues. I’ve put links to two of them below.

The first article discusses how emissions are linked to GDP growth and whether it is possible to grow an economy while reducing emissions.

The second essay details what was in the original Club of Rome “Limits to Growth” report, which was released more than 30 years ago. I think it now looks quite prescient.

I think it is a fair question to ask, why are governments in the rich world still pulling the “Maximise Growth” levers, when the risk of collapse is so great? Just because maximising growth has been good for us for the last 200 years, doesn’t mean it still is now – the past is no longer a good guide to the future.

Of course, in the developing world economic growth is still hugely beneficial for the population. But in the rich world I believe it has become a fetish. The assumption that growth is good underlies every story about the economy – it’s just not true any more. A recent example; in a newspaper last week there was a headline about the SocGen rogue trader, which said something like “The man who saved the world”. The meaning of the article was that the rogue trader forced the hand of the Federal Reserve to cut interest rates by 0.75%, and thereby averted a recession and “saving” the world economy.

As far as I can see, we are now in a situation where any boost to the world economy increases emissions and therefore increases risk, not decreases it. When the media or politicians talk of risk to the economy they are referring to the risk of increased inflation or unemployment, over a timespan of a few years. The worst case risk from climate change is a permanent change to the Earth, partial or complete economic collapse, massively increased damage from natural disasters, enormous population migrations, and great loss of life etc. When assessing risks, if you focus on the smaller risks and ignore the larger then you’re not really dealing with risk at all.

Northern Rock
I think it’s interesting to look at Northern Rock as an example of a strategy for growth which went wrong. The business model at Northern Rock was for low costs and high growth funded mainly by capital markets. This worked beautifully for many years. Northern Rock grew rapidly and made large profits. Everyone knew that the era of loose money had to end at some point, but it wasn’t clear exactly when the markets would turn or how tight things would get. In the first half of 2007 there were news stories which speculated on the end of loose money. The writing was on the wall. Northern Rock could have switched strategy in the first half of 2007, stopped writing so much new business, expanded its deposit base and sought longer term funding at higher cost. It didn’t do that, it kept with the same strategy of low cost and maximum growth. When the credit markets tightened its funding dried up and shareholders lost almost everything. Maybe a late change in strategy still wouldn’t have saved it, who knows. But it would have stood more of a chance.

Giving up on growth would be disruptive and difficult. But why should we have maximizing growth as an overriding objective? As Stern said, the developing world will feel the effects of climate change first and hardest. Why are we in the rich world not taking some financial pain to help? The message that we may have to make sacrifices in our standard of living in order to reduce the risk from climate change is just not being said.

I think the analogy of wartime is useful. The enemy is climate change and it could destroy our civilization. Until that enemy is beaten, why should we in the rich world care if we are 10 or 20 percent richer or poorer, as long as we still have the necessities of life?

What is the level of risk?
I recently came across a paper by an economist called Martin Weitzman. With regard to climate change he has commented on the lack of focus on social insurance against extreme events. The link below is to his webpage. Within that there is a link to his papers. The one I am referring to is “On modelling and interpreting the economics of catastrophic climate change” – 14 January 2008. (His earlier paper from February 2007 about the Stern Review is also worth reading.)
He has looked at the climate models that went into the IPCC report and tried to quantify the uncertainty in the tails of the climate models. He has estimated ballpark figures for the 5% and 1% probability levels for climate sensitivity. These figures are 11 degrees Celsius and 20 degrees Celsius respectively, in the long term. There is of course no way that anything like our present civilization could withstand warming anywhere near these levels. I have not checked into whether his figures are reasonable, but the conclusions follow even if he is out by several degrees. The current semi-official British government target for greenhouse gas stabilization is the top end of the stabilization target recommended by the Stern Review i.e. 550ppm CO2 equivalent. This is almost a doubling of pre-industrial CO2.

So, if Weitzman’s estimation is roughly correct, it implies that the British government is willing to run at least a 5% risk of ruin (probably much higher) a stunning level of risk. It seems to me that the most likely explanation is not that they have taken a considered decision so far, it is that they just haven’t thought about it deeply enough yet. When they do, surely the stabilization target must be reduced? It makes me wonder what can be done to quickly influence the political debate about emission targets.

Discussion of motivations for action
We may believe that drastic cuts are necessary, but if for public support we depend on compassion for others far away, we may not get very far. However, I don’t think it’s necessary to appeal to altruism, I think pure self interest is enough to make people in favour of radical action. The worst case scenario from runaway climate change is surely that we lose everything, and the industrial revolution turns into an industrial bubble. If people truly understand that there is a real risk of this happening, maybe they would back more radical action?

Contingency planning for high climate sensitivity
Shouldn’t there be more planning going on for the possibility that climate sensitivity is actually in the tail of the models? There is a 50+ year time lag between putting the emissions into the air and the full warming effect. So isn’t it possible that the concentration of CO2 we have already put into the air is enough in itself to cause catastrophic runaway climate change? If that is actually the case then surely we will have to find a way to suck a large amount of GHG out of the atmosphere. In that eventuality, all the talk about stabilizing atmospheric CO2 is not good enough. Shouldn’t we be facing up to this possibility now? If so, then as Weitzman mentions, we may well be forced to use some kind of geo-engineering quick fix such as seeding clouds with sulphate to reflect heat, to buy time for a permanent solution.

At the very minimum our governments are running huge risks. It’s no defence to say that Britain can only act internationally. Britain should be acting first and leading the way. The Climate Change bill is groundbreaking and a great step forward, but the targets in the bill need to reflect the latest science and the government need to back up the words with action and urgency, and they need to communicate that to the British people in a more effective manner.

A long term perspective
From the perspective of 100 years in the future, it is quite conceivable that the entire post-war economic boom could be seen as a monumental mistake. The future generation could look back at the early 21st century and ask why we didn’t we think it worth taking a cut in living standards to save ourselves. Perhaps during the cold war it was excusable to focus on building economies, we were racing to compete against the Soviet bloc and the biggest fear was nuclear annihilation. But surely, since 1990 when the IPCC first reported, allowing greenhouse gases to continue accumulate in the atmosphere was utterly reckless – to the point of being irrational.

In the early 1990’s the rich world could have chosen to adhere to the precautionary principle and focused on emission cuts instead of growth. Perhaps just for about 20 years, until climate science had developed and we had a clearer picture of the safe limits. Instead, (borrowing Al Gore’s words from his Nobel prize acceptance speech) we chose to continue to use the atmosphere as an open sewer.

Our civilization is the first to have the benefit of modern science and modern technology, and therefore perhaps the first to have a clear early warning that our actions could cause catastrophe. We are choosing to ignore the scientists and we carry on with the patterns of behaviour that will destroy us. It looks like a triumph of human instinct over intellect. Perhaps human decision-making processes are just not designed for this kind of problem – the short term always dominates over the long-term? Perhaps the argument for strong action against climate change needs to have more emotion injected into it?

Final thoughts
Maybe we should be getting more angry about this. Given all that we know now from the scientists, isn’t it clear that our political leaders at this time are failing us? In 1940 Winston Churchill promised nothing but blood, sweat and tears in the fight to defeat the Nazis. In the 1990’s and early 21st century we have the “politics of contentment”. It surely will come to be seen as the politics of delusion. Surely the scale of threat we now face is at least as great as that faced in 1940? The environment minister Phil Woolas recently called climate change the latest example of “mutually assured destruction”. Why is it that in 2008, our politicians are not telling us that it may be worth making sacrifices to beat this problem? Why are they still feeding us the reckless nonsense that we can have more cars, more flights and more consumption every year?

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