The influence of inertia and uncertainty upon optimal CO2 policies

Following the UN Framework Convention on Climate Change [1], countries will negotiate in Kyoto this December an agreement to mitigate greenhouse gas emissions. Here we examine optimal CO2 policies, given long-term constraints on atmospheric concentrations. Our analysis highlights the interplay of uncertainty and socioeconomic inertia. We find that the ‘integrated assessment’ models so far applied under-represent inertia, and we show that higher adjustment costs make it optimal to spread the effort across generations and increase the costs of deferring abatement. Balancing the costs of early action against the potentially higher costs of a more rapid forced subsequent transition, we show that early attention to the carbon content of new and replacement investments reduces the exposure of both the environmental and the economic systems to the risks of costly and unpleasant surprises. If there is a significant probability of having to stay below a doubling of atmospheric CO2-equivalent, deferring abatement may prove costly. The problem of climate policies is stochastic in nature: we are not likely to know soon at what concentration level « dangerous interference with the climate system » [1, art. 2] would occur. An initial abatement path consistent with reaching one selected ceiling may have to be either accelerated or relaxed in the light of new scientific information. This is why the IPCC states that: « The choice of abatement paths involves balancing the economic risks of rapid abatement now (that premature capital stock retirement will later be proven unnecessary), against the corresponding risks of delay (that more rapid reduction will then be required, necessitating premature retirement of future capital)»[2, Ch. 8]. Incorporating uncertainty into the analysis implies that the inertia of production and consumption systems becomes critical. Without inertia, the transition costs for switching from one emission path to another would be null and uncertainty would not matter so much. But in a stochastic framework, inertia has a Janus’s role: it raises both the costs of premature abatement and the costs of accelerating