I have a new working paper which clearly shows that a policy maker who evaluates mankind’s well-being would fully favour mitigation over adaptation. In fact, the result is that a policy maker should not invest in adaptation, because this may reduce global well-being significantly.  If you want to know more, please do read on.

In order to deal with climate change, policy makers tend to resort to adaptation and mitigation. Adaptation is a policy to reduce the impact of climate change, for example in the form of making one’s house more storm resistant. This tends to be an investment that benefits the individual or household level, and thus it is something economists call a private good. In contrast, mitigation is a policy that reduces climate change itself, for example through investments in green technology. Thus, mitigation is something economists call a public good.

For a while I have been worried about the narratives everywhere that adaptation needs to be part of the optimal climate policy mix. For example, the Intergovernmental Panel on Climate Change (IPCC), which one would argue is the most important international authority on issues of climate change (and has received the 2007 Nobel Peace Prize for its contributions), specifically notes that “[e]ective climate policy aimed at reducing the risks of climate change to natural and human systems involves a portfolio of diverse adaptation and mitigation actions (very high confidence).” Many other international institutions, such as the World Bank, the UNFCCC, and many more follow this narrative closely; as well most governments worldwide.

So I sat down and tried to think whether this really makes sense and what this argument was missing. Intuitively it feels wrong of course, but I couldn’t pinpoint the exact reason.

In the new working paper I now have a simple, yet sufficiently general, model that clearly shows that a global, benevolent planner always favors mitigation over adaptation. I summarize the paper as follows:

In climate change policy, adaptation tends to be viewed as being as important as mitigation. In this article we present a simple yet general argument for which mitigation must be preferred to adaptation. The argument rests on the observation that mitigation is a public good while adaptation is a private one. This implies that the more one disaggregates the units in a social welfare function, i.e. the more one teases out the public good nature of mitigation, the lower is average income and thus less money (per region, country or individual) is available for adaptation and mitigation.  We show that, while this reduces incentives to invest in the private good adaptation, it increases incentives to invest in the public good mitigation since even small contributions of everyone can have significant impacts at the large. Conclusively, private adaptation thus must be viewed as a significant loss to global welfare. When taking this result to the data we find that a representative policy maker who relies on world-aggregated data would invest in both adaptation and mitigation, just as the previous literature recommends. However, a representative policy maker who relies on country-level data, or data at further levels of disaggregation, would optimally only invest in mitigation.

Comments are of course warmly welcome. You can also download the paper via the working paper directory of IPAG Business School, or via RePEc.

So there are two additional points coming out of this:

  1. Representative agent models like the DICE integrated assessment model will significantly overestimate the optimal investment in adaptation. Thus, be sure to resort to highly disaggregated integrated assessment models when assessing the adaptation-mitigation trade-off.
  2. This is my second article that emphasizes the importance of relying on disaggregated models to study economic aspects of climate change. My first paper looks at what I call the Aggregation Dilemma: Basically we want to rely on highly aggregated models since they simplify research and policy work along many lines; but the problem is, as I show in the article, that the more we aggregate, i.e. the more we look at the country or higher levels of aggregation, the more we will underestimate the social cost of carbon. For some more information on this please follow this link to a previous blog entry of mine. Conclusively, climate economics should move away from highly aggregated models.