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1 INTRODUCTION
The Stern Review on the Economics of Climate Change¹ was a report issued in October 2006 that looked both at the economic effect of climate change, and at the economic measures such as tax and regulation which could be used to move the world to a low carbon economy. The headline finding of Sir Nicholas Stern’s 575-page report is that time is running out to tackle its causes. “The scientific evidence points to increasing risks of serious, irreversible impacts from climate change associated with business-as-usual paths for emissions,” warns the former chief economist at World Bank.

Stern, says, however, that there is still time to avoid the worst impacts of climate change, and he challenged the global community to respond positively and quickly to tackle the problem, saying “The task is urgent. Delaying action, even by a decade or two, will take us into dangerous territory. We must not let this window of opportunity close”. Speaking at the launch of the report, Stern described climate change as the “greatest market failure the world has ever known” and said it is a “false economy” to put off action since costs will only rise, with the impact of global warming potentially costing up to 20% of the world’s gross domestic product (GDP), which would lead to a recession on a scale not experienced since the 1930s.

The report highlights three elements of policy required for an effective global response:

• pricing of carbon through tax, trading and regulation;
• support for innovation and the deployment of low-carbon technologies; and
• the removal of barriers to energy efficiency, as well as improvements in information and education on climate change to persuade individuals to help combat global warming.

He also says the international community needs to urgently agree a goal to stabilise concentrations of emissions in the atmosphere and not wait until the first commitment period under the Kyoto Protocol ends in 2012 to make a decision.

2 THE SCENARIO FOR CLIMATE CHANGE
The report says that on current trends, average global temperatures could rise by 2–3°C within the next 50 years, which will have a severe impact, including melting glaciers, declining crop yields and rising sea levels. The poorest countries are likely to suffer first and the most: “High temperatures will increase the chance of triggering abrupt and large-scale changes that lead to regional disruption, migration and conflict,” Stern says.

Greenhouse gas (GHG) concentrations in the atmosphere now stand at around 430 parts per million CO2 equivalent (ppm), compared with only 280 ppm before the Industrial Revolution. The report estimates that carbon emissions will be between 500 and 550 ppm by 2050 if the current trend continues, which would drive up temperatures to 2°C above pre-industrial levels. With no action to reduce discharges, and with the world economy continuing to grow, atmospheric levels could reach 750 ppm by the end of the century, which could push up temperatures by as much as 5°C, similar to the overall increase in global temperature since the last ice age.

Stern says that without the introduction of measures to cut discharges, each tonne of carbon emitted will cause at least $85 of damage. Business-as-usual would also lead to a fall of at least 5% in global per capita consumption now, and forever. However, if other factors are included – such as the direct impacts on the environment and human health, the planet being more sensitive to rising temperature than previously thought, and the burden equally shared between poorer and developed countries – the costs could be much higher. “Putting these additional factors together would increase the total cost of [business-as-usual] climate change to the equivalent of around a 20% reduction in consumption per head, now and into the future,” claims Stern.

The impacts of climate change on the UK include:

• Infrastructure damage from flooding and storms is expected to increase substantially, especially in coastal regions – though effective flood management policies are likely to keep damage in check.
• Water availability will be increasingly constrained, as runoff in summer declines, particularly in the South East where population density is increasing. Serious droughts will occur more regularly.
• Milder winters will reduce cold-related mortality rates and energy demand for heating, while heatwaves will increase heat-related mortality. Cities will become more uncomfortable in summer.

Stern points out that a global temperature rise of 3°C will see temperatures in London rise by up to 7°C above current levels because of the combined effect of climate change and the urban heat island effect, which means that comfort levels will be exceeded for people at work for one-quarter of the time on average in the summer. In warmer than average years or higher temperatures, office buildings could become difficult to work in for large spells during the summer without additional air-conditioning. In already dry regions, such as parts of the South East, hot summers will further increase soil drying and subsidence damage to buildings that have not been properly underpinned.

3 TAXATION AND TRADING

“The investment that takes place in the next 10–20 years will have a profound effect on the climate in the second half of this century and in the next”, says the report. Stern calls for a doubling of support for energy research and estimates that stabilising CO2 emissions would require cuts in discharges of at least 25% below current levels by 2050, and would cost around 1% of GDP (around £184 billion) if action is taken now². Lower costs could be achieved if there are major efficiency gains, though costs will be higher if innovation in low-carbon technologies is slower than expected or policy-makers fail to exact the most benefit from economic instruments.

He envisages, at least in the short term, using price-driven instruments, such as tax and trading, to mitigate climate change. “The price signal should reflect the marginal damage caused by emissions, and rise over time to reflect the increasing damages as the stock of GHGs grows,” he says. This, explains the report, encourages emitters to invest in alternative, low-carbon technologies, and consumers of GHG-intensive goods and services to change their spending patterns in response to the increase in relative prices.

A common price signal will be established through taxes and tradable quotas, with regulation used to set an implicit price where market-based mechanisms alone prove ineffective. “Both tax and trading can be used to create an explicit price for carbon, and regulation can create an implicit price,” says the report.

Stern sees the EU emissions trading scheme (ETS) as potentially a way of establishing such a price signal across countries, believing that greater use of auctioning allowances should eventually become the norm, as it would raise public revenues. He also regards the ETS, which allows emission reductions to be made in the most cost-effective location (either within the EU or elsewhere), as a way of accelerating mitigation in developing countries and wants to see the expansion such schemes. “Broadening the scope of [emissions trading] schemes will tend to lower costs and reduce volatility. Increasing the use of auctioning is likely to have benefits for efficiency, distribution and potentially the public finances,” explains Stern.