Economic models have ignored tipping points, rainfall changes and indoor work, leading them to under-estimate climate change’s economic damage
Mainstream economics has consistently understated the economic damage of climate change, according to two recent reports.
As economic models fail to include tipping points, floods, droughts or indoor work, they hugely underplay the economic damage that global warming will do, the reports argue.
The models are relied upon by investors, politicians, central bank governors and influential bodies like the Intergovernmental Panel on Climate Change (IPCC).
An IPCC report last year, which was signed off by all governments, summarised these models to conclude that warming of around four degrees Celsius “may cause a 10-23% decline in global GDP by 2100 relative to global GDP without warming”. Other parts of the same report warned of catastrophic physical impacts at that level of warming.
The professional body for the UK’s actuaries (IFA), whose job is to judge risk for insurance companies and pension funds, published a report last month which argued that influential economic models like this “jar with climate science”.
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One of the report’s authors, Edinburgh-based actuary Sandy Trust, told Climate Home that underestimating climate change is “extremely dangerous”.
“What economists have done is say that climate change is a cat in the bush, not a tiger,” he said.
‘Fantastical predictions’
University College of London economist Steve Keen published a similar report for Carbon Tracker last month.
He characterised the models of Nobel-prize-winning economist William Nordhaus as “fantastical predictions” and accused economic journals of accepting “sloppy work” because it fits with economic orthodoxy.
William Nordhaus at a US embassy reception after being awarded the Nobel Prize for economics in 2018 (Photo credit: US Embassy Sweden)
Freedom of information requests carried out for Keen’s report show that British pension funds are using these economic models and advice from investment consultants to tell their members that climate change will only have a minimal impact on their portfolios.
The pension fund for the rural English county of Shropshire estimated that 2C of global warming would boost its returns until 2030. But climate scientists say 2C of warming would cause severe climate disasters such as increasing the number of heatwaves in a decade by six times and destroying crops and almost all of the world’s coral reefs.
The Shropshire pension fund’s claim was based on advice from investment consultants. Keen’s report finds that “just as advisers have taken refereed economic estimates of damages from climate change at face value, so too have financial regulators” like the Financial Stability Board and the USA’s Federal Reserve.
The Federal Reserve Board governor Christopher Waller said this year that “risks posed by climate change [to banks and US financial stability] are not sufficiently unique or material to merit special treatment”.
Tipping points
Both reports find that many economic models have assumed the economic damage caused by climate change will increase in a linear way. If it gets twice as hot, the damage will be twice as bad.
But this ignores the role of tipping points, where events like the loss of an ice sheet or rainforest trigger irreversible changes at a certain degree of global warming.
Trust said there had been a “disconnect” between economists and climate scientists on tipping points. “As we get closer to 1.5C, we’re much closer to triggering these tipping points which individually either increase the pace of climate change by releasing greenhouse gases or increase the rate of climate change”, he said.
Vanessa Hodge advises investors like pension funds as part of the Mercer consultancy. She said that she is clear to her clients that “we know for a fact that [economic models] are understating the tipping points”. She said they are “incredibly difficult to model”.
No pain from rain
According to Keen’s report, economic models of climate change impacts often only take into account temperature changes and ignore changes in levels of rainfall.
This means that the economic impact of floods, droughts and fires is not taken into account, contributing to the underestimating of climate’s economic harm.
This underestimation is particularly severe in the colder countries which make up most of the global north.
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That’s because temperature changes mainly affect hotter countries whereas the impact of floods, fires and droughts are more widely spread.
A 2000 study led by Yale economist Robert Mendelsohn claimed there would be economic benefits in North America, Russia and Western Europe because “they are currently cool” so “warming is helpful”. Mendelsohn has links to climate-sceptic think tanks and continues to downplay the risks of climate change.
Bad assumptions
Keen’s report says that influential economists have made the “strikingly invalid assumption” that work conducted indoors will not be affected by climate change.
In a 1991 study, Nordhaus claimed that “for the bulk of the [US] economy – manufacturing, [underground] mining, utilities, finance, trade and most service industries – it is difficult to find major direct impact of the projected climate changes over the next 50 to 75 years.” Nordhaus did not respond to a request for comment.
But rising temperatures can have a direct impact on the productivity of indoor jobs. For example, carmaking giant Stellantis had to
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