CLIMATE CHANGE – SOCIOECONOMIC DIMENSIONS AND CONSEQUENCES OF MITIGATION MEASURES
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CLIMATE CHANGE – SOCIOECONOMIC DIMENSIONS AND CONSEQUENCES OF MITIGATION MEASURES

Fortum Research Seminar 2000
2.2.2000 Espoo Cultural Centre, Tapiola

Fortum Millenium Publication

It is a wonderful way to celebrate the beginning of the new millennium by having a close look at climate change, which is one of the greatest challenges facing us in this century. We are very grateful to Fortum for sponsoring this project on the socio-economic dimensions and consequences of mitigation measures.

I would also like to thank other members of the steering committee and, of course, the authors. We were fortunate to have so many distinguished Finnish and foreign experts participate in the project. We are specially grateful to Pekka Pirilä, the chief editor of the book.

It is a great honour to have the opportunity to present the project to you at this seminar. In my presentation, like in the book, Finland will often be used as an example. However, many considerations apply to other industrialised countries with small modifications.

Setting the scene

In the first essay of the book, Allan Johansson sets the scene for the project by noting that environmental problems are often seen as the consequences of wasteful Western lifestyles. In the same context, nostalgic arguments are sometimes put forward in favour of ancient ecological lifestyles. This picture is, at least partly, wrong. Much of the cultural scenery of Europe is a result of anthropogenic activities of past
centuries.

While the local environmental influence of man has been significant already in the past, the global nature of the influence is new. Today, decisions made at one point on the globe may result in environmental and socio-economic changes all around the world.

There have been earlier examples of how the international community has been able to react to global environmental threats. One example was the Montreal protocol on limitations of ozone-depleting substances. Somewhat earlier, the trans-boundary pollution transport of so-called acid rain, was curbed though multinational agreements. In spite of these examples of successful multinational action, global warming represents a unique challenge.
Firstly, decisions must be made in a state of great scientific uncertainty. Observed warming alone is not sufficient evidence to prove human influence on the climate, but a combination of empirical observations and theoretical arguments has convinced most of the respectable scientists. But even if we consider warming of the atmosphere a likely fact, we do not know its exact magnitude nor its exact consequences. Secondly, we have no simple technical solution to the problem, let alone a clear
picture of the economic and social effects of various abatement strategies. Thirdly, the negotiations are complicated, because the consequences of both warming and abatement vary widely between countries.

Effects of warming on Finland

Warming will alter the daily, seasonal, and geographic patterns of temperature and precipitation that make up the current climate. Relative to today’s climate, the greatest warming will occur at higher latitudes during the winter months. Actually, studies made some years ago at the Academy of Finland and at ETLA, the Research Institute of the Finnish Economy, suggest that at least during the next 50 years Finland would
benefit from warming in net terms. For Finland, the warming that we are expecting without emission reductions would be equivalent to a southward shift of 1000 kilometers over the next 100 years.

One of the greatest concerns related to global warming is its influence on the sea level. The best estimate for the sea level rise during the next century is almost half a meter. For Finland, there are some crucial uncertainties related to ocean streams. If the Gulf Stream is disturbed, it may become colder, not warmer, here in the North.

The ecological limits

In their article, Cleveland, Hall and Kaufmann discuss the general framework that is often used to describe human influence on the environment.

According to this idea, human impact on the environment is determined by population size, affluence and technology. This simple idea may easily lead to pessimistic forecasts. The world population currently stands at 6 billion. In the mid-21st century it is expected to be in the range of 7 to 11 billion.

Even if fertility rates dropped magically to replacement levels today, global population would grow for more than 50 years due to the age structure of the population.

Affluence is the second determinant of man’s impact on the environment. Per capita GDP and the per capita emission of carbon dioxide are strongly correlated, and we want GDP per capita to continue increasing. However, the relationship between environmental influence and affluence is not an ironclad link. Deviations stem from national differences in the types of energy used, the types of goods and services produced, and the variety of social and cultural forces unique to each nation. Here we also enter a discussion on values, lifestyles and consumption patterns.

It is a fallacy to believe that only affluence and over-consumption is the reason for environmental degradation – poverty pollutes, too. Deforestation and desertification in the Sahara are examples of this. In recent years, we have also seen that with increasing income levels people tend to demand better environmental policies. A clean environment is in this sense becoming a luxury good.

Technology gives the combinations of capital, labour, energy, materials, and information that are used to produce goods and services. Very often, different combinations are possible. And luckily, we have already had and will have new environmentally friendly technological and social innovations in the future. All the
authors share the view that technology will have a central role in reducing the world’s energy intensity and in shifting the primary energy sources from fossil to non-fossil fuels.

The Kyoto targets

Kyoto is an old capital of Japan, which until very recently was known for its beautiful architecture and cherry blossoms. Nowaday’s, Kyoto is best known for the Kyoto Protocol. In this protocol, the industrialised countries agreed to limit their greenhouse gas emissions. According to the EU’s burden sharing agreement, Finland should return to its 1990 emissions level.

The Kyoto Protocol is not a comprehensive agreement. It must be complemented with agreements on the implementation of the flexibility mechanisms, on sanctions, and on several issues related, for example, to the calculation of the emissions and sinks. For example, the inclusion of forest sinks interests us Finns very much. Furthermore, further steps to clarify the position of the developing countries, which are not included
in the agreement, will be necessary.

The idea of the flexibility mechanisms is to reduce the costs of implementing the Kyoto limits. The main flexibility mechanisms are emission trading, joint implementation, clean development mechanism, are burden sharing agreements.

The opinion that emission trading would help in meeting the Kyoto targets, was shared by the participants in the project. Trading would also encourage the development of a wider variety of technologies. Similarly, technology transfer should be encouraged through the Joint Implementation and Clean Development Mechanism.

The flexibility mechanisms specified in the Kyoto Protocol are of great interest to Finland, because reducing emissions in other countries, for example, in Russia and other nearby countries, will be possible at a much lower cost than the marginal cost for emissions reduction in Finland.

Will the Kyoto targets be achieved?

It seems impossible to discuss the response to the Kyoto Protocol and avoid considering whether it will enter into force and whether countries will meet their commitments. There are serious doubts, for example, concerning the US ratification.

Assuming that the Kyoto Protocol will be ratified and it enters into force, the question remains whether the targets will be reached. Here again, very serious doubts remain. So far, there has been more success in making non-binding promises than in real changes. If a general view builds up that several main countries fail to meet the targets, international pressure on the remaining countries will also disappear.

The importance of the climate issue would by no means be diminished by such a failure and the original Climate Convention would still remain valid.

At this point I would like to tell you a story that highlights the problems of making of binding multilateral commitments: There were three good friends: Wolfgang, Sven and Pentti, who decided to go on a hiking trip. They agreed that everybody will bring a bottle of Koskenkorva with him. After walking the first day, they settled down by the campfire. Then came the question whose bottle should be opened first. In the
European democratic tradition they decided to take a vote. And by two votes against one they decided that Pentti’s bottle would be drunk first. After walking the second day the same question came up again. This time it was decided, again by two votes against one, that everybody would drink his own bottle. This story reminds us that democratic decision making does not guarantee that forerunners are properly treated in mitigation negotiations.

What are the technical possibilities and costs of meeting the Kyoto targets in Finland?

Greenhouse gas emissions in Finland have in recent years been below the trend, and this has sometimes been taken as evidence that the approach to the target level will be painless. This deviation is, however, due to three reasons: the economic depression of the early 1990s, changes in methane emissions and imported electricity.

Lehtilä describes in is chapter the technical possibilities and costs of meeting the Kyoto targets in Finland. He estimates that, in the absence of abatement measures, emissions would increase by 15-25 % compared to 1990 level. As total GDP is estimated to increase by about 60 % in the same period and total energy consumption by about 30 %, the baseline projection already assumes a decrease of about 25 % in
greenhouse gas intensity, and a decrease of nearly 20 % in overall energy intensity.

The potential for emission reductions is greatly diminished because many of the technical changes proposed elsewhere have already been realised in Finland. In particular, the use of co-generation of heat and power (CHP) and the use of biofuels is more extensive than in any other country.

The potential for additional hydropower production is also small. While the long-term potential of wind power is rather large, the share of wind power is unlikely to exceed 1 % of electricity generation by 2010.

One new large nuclear power plant would be able to produce enough to meet more than 10 % of the Finnish electricity demand. Technically, it is still possible to have the plant operational before 2010. Such a plant would considerably ease reaching the Kyoto target while maintaining favourable economic growth.

According to Lehtilä, Finland can, indeed, meet its Kyoto commitment by domestic actions. Making the very strong assumption that optimal projects can be selected, the direct annual costs would be about € 350 million during the target years 2008-2012. Costs would be less than half of that, if nuclear capacity can be expanded. If only CO2 emissions could be reduced, the annual costs would be about € 100 million
higher. Thus the possibility of realising part of the required reductions with emissions of other greenhouse gases, most notably methane from waste dumps, is economically very valuable.

How about the Finnish economy?

However, this is only half of the story. A major part of the reduction can be reached at a low cost, but the last marginal reductions needed to reach the full target are very expensive. The steering mechanisms to be used may include nationwide sanctions, e.g., carbon taxes. This may lead to a price of € 40 per ton of CO2 if additional nuclear power is not available and € 30/t(CO2) with additional nuclear power. The total annual proceeds from the tax would be € 2.2 billion and € 1.6 billion, respectively. It will be difficult to implement taxation at this high level without significant negative side effects on the national economy.

Juha Honkatukia estimates in chapter 5 the effects of various steering mechanisms on GDP, private consumption, employment, and several other economic variables. These estimates strongly depend on the assumptions made on handling the public revenue from carbon taxes or emission permits, and on the assumption related to other countries’ policies. In most of the cases, the reduction in GDP is 3-5 % from
the baseline case.

Large changes in the business environment lead to losses for some companies and to new opportunities to others.

The winners in Honkatukia’s analysis will include companies operating in the growing sectors and companies that provide technology for these sectors. Information and communication technologies belong to a large extent to the winners. So do many service sectors, especially if the tax revenue is returned evenly toall sectors of economy. The heavy process industry, on the other hand, is energy intensive and must be prepared for great challenges.

Firms and the Kyoto targets

In chapter 6, Kettunen presents his view on how the process industry will meet these challenges. He sees great opportunities in improving logistics in the Finnish pulp and paper industry. The transportation needs of raw materials, fuels and products could be cut by half for paper produced in Finland and used in Western Europe. Most of the potential is in the first part of the logistics chain, i.e., in the collection and transportation of raw materials.

Kettunen argues that, because of productivity increases, the process industry could grow by about 4 % with existing plants. This leaves little potential for new investments, which is the only way to adopt more efficient technologies.

Here we can make an important general observation: the year 2010 is already very close, too close to change radically the existing structure of physical capital and infrastructure. To change the structure of human capital and national competencies, of course, requires even more time.

Kettunen also points to a very important aspect in emission reductions. The Finnish companies typically operate in many countries. Actions in one country affect relative costs and thus the utilisation of lower cost plants increases. Naturally, this will also be reflected in decisions on new investments. Therefore, it is essential that actions are taken in a way that does not shift the balance too much in favour of producers outside Finland or the whole EU. This would lead to carbon leakage, i.e., to the transfer of
CO2-producing activities without a net reduction in emissions. In the short run, it would also have a negative effect on profitability.

It is clear that successful emission reductions require good co-operation between governments, and private sector business and industry must anyway play a crucial role in carrying out the concrete projects. Because of the large costs, some projects have to be supported either by allowing basic emission permits free of tax or by compensating at least part of the costs. We will likely see also various kinds of business initiatives on a voluntary basis.

What will happen after 2010?

Climate change does not stop in 2010. Ilkka Savolainen reminds us that the CO2 concentration in the atmosphere will increase rapidly from 1990 to 2010 even if the Kyoto targets are met. This means that some warming is inevitable, and we should also be prepared for it.

Stabilising of the CO2 level to a value like 550 ppm requires two things. First, emissions from the industrialised countries must be brought to a fraction of the present value within half a century. Secondly, the increase in emissions from the developing countries must gradually be reduced and stopped, preferably before the emissions exceed their sustainable level.

In this kind of scenario, the industrialised countries should participate in financing the emission reductions of the developing countries. This arrangement need not lead to a permanent geographic distribution of emissions, but instead to a distribution that evolves over time and reflects the economic development in different parts of the world.

Values and lifestyles

When we look beyond Kyoto, we may also ask how values, lifestyles and consumption patterns will change in the long run. In our project, two articles address these issues. Bi Puranen discusses the willingness of young Swedes to accept changes in their way of life and Sari Kuvaja gives her view of possible future lifestyles in Finland.

Puranen concludes that most young people are optimistic about their future. The climate problem is at the top of their environmental worries, but they do not expect that the environment will directly affect their own life. They also want to be able to travel to distant places but they expect that someone else will take care of the resulting environmental consequences through the development of better technologies.

It is interesting that today’s youth seems to have more trust in business than in the political system. This may be related to the fact that they believe that their influence on business as consumers is greater than their influence on politicians in a democratic system. Pressure by various non-governmental organisations, as we have seen, e.g., in the WTO negotiations in Seattle, may also be seen as a way to influence developments.

Sari Kuvaja describes everyday life in Finland during the time when the restrictions on greenhouse gases have been taken seriously. Finland is then, according to these snapshots of a few families, a country where living in an ecologically sustainable fashion is highly valued. Ways of reducing the waste of resources include community living and sharing of equipment and vehicles. Bicycles and trains have gained ground. Cars and aeroplanes have not disappeared, but are used much less than at present, and even horses have regained some role in agriculture.

Kuvaja’s description suggests that we will learn to appreciate non-economic benefits and satisfaction. To what extent this will actually occur is an interesting topic for further discussion.

Conclusions

I would now like to summarise my description of the Fortum millennium project by some final remarks.

The sustainability of present living standards and continuation of growth are fundamental questions facing us in the 21st century.

Climate change is a major challenge in this respect.

The Finnish case shows that curbing greenhouse gas emissions generally and reaching the so-called Kyoto targets, in particular, will not be easy although technically feasible. The real difficulty is that there are no obvious, generally accepted, means to steer the development without introducing serious economic side effects.

Much more scientific knowledge is thus needed for a reliable estimate of human influence on the future development, and also the socio-economic consequences of mitigation measures.

Because of the sizeable costs involved, sharing the burden and rules of the game should be actively discussed and also agreed upon – sooner rather than later.

Firms will carry out the concrete mitigation projects, some of which will have to be supported by basic permission rights or to have some of their costs compensated for. That is why co-operation between government and the private sector is important.

Kyoto is only the first step. The discussion of climate change and its socio-economic consequences will stay with us for a very long time.