Stern report

January 14, 2007

Nicholas Stern has shown that market forces can be harnessed to reduce environmental damage, by making the hidden costs of such damage visible. The basic idea is that if the cost of a detriment can be identified, then spending a comparable amount to remove it means no diminution of overall economic wellbeing. (Think of the investment following the Clean Air Act after the great London fog of 1952: overall benefits vastly exceeded costs).

The most important figure in the Stern report is the placing of a monetary value on the costs of a tonne of carbon dioxide. This figure is £45. The average Briton is responsible for about ten to 11 tonnes a year—say £480. If we aimed to reduce this by 60 per cent over six years, or 10 per cent a year, the cost would be £48 in year 1; £96 in year 2, rising to £288 in the final year. That represents no more than a cumulative 0.5 per cent a year of current disposable incomes after existing taxes and allowances. It is also well below expected projections of growth in real incomes. So action on Stern does not mean contraction—particularly when allowance is made for the transfer of resources from one use to another, and the scope for building up new environmental businesses.

Market signals can be used to alert people to the carbon content of their purchases. The objective would be to establish a carbon value for as many goods and services as possible. A carbon payment would be added to the price. This would also provide feedback to suppliers by subsequently influencing customer choices.

Carbon cards should be introduced, similar to the Oyster card on London Transport. These would be chargeable with amounts of money and the appropriate sums would be deducted when paying for purchases (payment would not be confined to this method, but, as with Oyster cards, a discount could be given for their use). An early candidate for such a charge would be air travel. At £45 per tonne, the carbon cost of a return flight to Paris is £15; to New York £170 and to Sydney £500. A cumulative charge of 10 per cent of these figures over five years—a reduction of a half by year five—would produce a combination of a reduction of up to 50 per cent in carbon emitted, or a smaller reduction together with revenue available for investment in cutting carbon generated elsewhere. Airlines would be charged for empty seats.

This is a measure which immediately lends itself to co-operation with other EU countries, and which avoids two potentially difficult problems—the possible breach of international obligations that a tax on aviation fuel would represent, and the anomaly of simply bringing aircraft emissions within existing carbon trading schemes when the height at which planes fly means that each tonne of CO2 and other gases has an estimated three times the damaging effects that it does at ground level.

Petrol is another obvious potential target. Virtually every motorist could improve their consumption of fuel by driving with more attention to economy. If they secured 10 per cent more mileage per litre, a rise of 10 per cent in the price of petrol would be revenue-neutral. It would also mean that the same total mileage could be covered at no extra cost but with a 10 per cent drop in emissions.

What we actually need is an annual carbon budget, introduced by the chancellor and quite separate from the financial budget. The success of the carbon budget would be judged by the extent to which it fell into deficit each year as compared with the original estimates. Every pound of shortfall would in fact mean a reduction in emissions—and therefore a corresponding plus on the positive side of the environmental account. The money actually raised would be available to cushion the impact of economic change by supporting retraining, shifts in production patterns and in transport, and other frictional costs.

There is also need for capital to be raised to assist in financing major investment in new energy sources and supply—including projects abroad, particularly in the developing countries. A tonne of carbon is saved is a tonne saved, wherever in the world this is achieved.

It would be sensible for this to be tackled by the government making an annual issue of long-dated index-linked bonds. These should carry a gradually escalating rate of interest, not least to satisfy the argument that part of the cost of protecting the future environment should fall on the generations who will benefit from it.

Such an approach would also have the beneficial side-effect of providing an ideal investment for pension funds who are increasingly concerned about the lack of long-term securities with which to match their future liabilities. The proceeds of these still relatively cheap bond issues could be bid for by private firms to assist in the financing of activities directly involved with mitigating the effects of climate change.