INTRODUCTION

Greenhouse gas (GHG) emissions are externalities in that they damage others but the cost is not borne by the emitter of pollution. Thus ‘without policy’ “the polluter does not pay” and therefore has no incentive to limit the damage inflicted on others. This represents the biggest market failure the world has seen. We all produce emissions, people around the world are already suffering from past emissions, and current emissions, if they are not curbed, will have potentially catastrophic impacts in the future. Thus these emissions are not ordinary, localised externalities such as congestion. Risk on a global scale is at the core of the issue. So too are ethics since first this is a highly inequitable process, the rich countries are responsible for most past emissions and poor countries are hit hardest, and second we have to think about relative valuation of costs and benefits far into the future. These basic features of the problem must shape the economic analysis we bring to bear; failure to do this will, and has, produced approaches to policy which are profoundly misleading and indeed dangerous.

In this chapter I will set out what I think is an appropriate way to examine the economics of climate change, given the unique scientific and economic challenges posed, and to suggest implications for emissions targets, policy instruments and global action. The subject is complex and very wide-ranging. It is a subject of vital importance but one in which the economics is fairly young. A central challenge is to provide the economic tools necessary as quickly as possible, because policy decisions are both urgent and moving quickly — particularly following the UNFCCC meetings in Bali in December 2007. The relevant decisions can be greatly improved if we bring the best economic analyses and judgements to the table in real time.

A brief description of the scientific processes linking climate change to GHG emissions will help us to understand how they should shape the economic analysis.