THIS is the currently latest version of the previously entitled paper `An Aggregation Dilemma’. I thank especially Reyer Gerlagh, Humberto Llavador and Gwenaël Piaser for extensive discussions and comments.
The results in this paper show that a policy maker who ignores regional data and instead relies on aggregated integrated assessment models will strongly underestimate the carbon price and thus the required climate policy. Using a stylized theoretical model we show that, under the mild and widely-accepted assumptions of asymmetric climate change impacts and declining marginal utility, an Aggregation Dilemma may arise that dwarfs most other policy-relevant aspects in the climate change cost-benefit analysis. Estimates based on the RICE model (Nordhaus and Boyer 2000) suggest that aggregation leads to around 26% higher total world emissions than those from a regional model. The backstop energy use would be zero in aggregated versions of the model, while it is roughly 1.3% of Gross World Product in the regionally-disaggregated models.
Though the policy recommendations from fully aggregated models like the DICE model are always used as a benchmark for policy making, the results here suggest that this should be done with the reservations raised by the Aggregation Dilemma in mind.
For anyone interested, please feel free to comment.