## A tear in a salty sea

The Government announced that the ETS will be modified. The changes hold off on implementing some parts of the ETS, and most notably keep agriculture out for a few years.

What can we make of this? It seems like a game theory approach might help. Imagine a 2×2 game. The players are NZ and the Rest of the World, and they can choose to implement an ETS or not. Here’s a possible pay-off matrix:

 ROW NZ Yes ETS No ETS Yes ETS 0,0 -5,-1000 No ETS -10, 0 0,-1000

What do these values mean? If everyone implements an ETS, then we just tick along as we are and there are no positive or negative consequences: 0,0. This is, apparently, a rose-tinted view of the future, but it will work for the moment. If no one implements an ETS, then there are serious consequences. New Zealand, however, doesn’t suffer too badly (there’s some science behind that). There are some unders and overs, but we’ll call it even. In that case (bottom right-hand cell): 0, -1000.

Then there are the two cells in which NZ and ROW take different approaches. If NZ implements and no one else does, then we pay a small cost but the world still suffers the same consequences: -5, -1000. In the reverse situation, NZ pays a reputational cost but the world turns out okay: -10,0.

Now, let’s add some probabilities. What’s the probability that the ROW will implement an ETS? Ten per cent? If so, the value to NZ of adopting an ETS is (-5 x 0.9) = -4.5, while the value of stalling is (-10 x 0.1) = -1. So, yes, stalling is worthwhile.

Given this payoff matrix, stalling is worthwhile until the probability of the ROW implementing an ETS rise above 33%. That is, it doesn’t have to be likely to happen — we just need a better than 1-in-3 chance.

The Greens are predictably exercised about the Government’s decision. In their statement, they quote the co-leader:

“New Zealand is missing the chance to protect and enhance its \$20 billion clean, green brand,” said Mrs Turei.

This may be true — I don’t know. The two things that occur to me are:

• given the lack of action in other countries, I’m not convinced that greenhouse gas emission activism by New Zealand will be noticed or valued. If the voters overseas don’t care enough, why will the consumers overseas care?
• we can add some payoff in the matrix to estimate the potential impact. What if it is worth an extra 10 per cent in export revenue (\$20b/GDP)? Let’s add ’1′ to both NZ-Yes ETS payoffs. The value of implementing the ETS is then ((1-4) x 0.9) = -2.7. It still isn’t worthwhile.

The cold calculus of climate change is that, for the moment, ETS is a branding exercise. And it doesn’t look like the brand can pay for itself.

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### § 9 Responses to A tear in a salty sea

• I haven’t given a great deal of thought to the concept of an ETS scheme in the past Bill, but to me it seems like the ‘discourse of capitalism’ is attempting to envelop what has been (in the past at least) a fringe belief. This is fairly typical of the capitalist of course, when something becomes big bring it into alignment with the added-value = growth model? If this is the case one might ask the Greens why on earth they are backing it? It would serve their purposes better to remain fringe. Can anyone explain how an ETS would work to restrict growth (that being the only mechanism to decrease emissions) or am I being naive?

• Bill says:

The Greens are backing ETS for politically pragmatic reasons. The NZ Greens want to be seen as ‘serious’, and so want to back policy suggestions that achieve environmental goals without appearing too outlandish. What strikes me about the ETS example — on a worldwide scale — is that we are in a realm of power negotiations. It isn’t about the rule of law, because there isn’t an international government (sorry, my tinfoil-hatted readers). It also isn’t really about economics in the way we often talk about it. Standard economics assumes some legal framework and institutions. With international relations, it’s just whatever you can get away with for as long as possible. And so, I have been wondering whether an Ostrom-type analysis is more appropriate. The biggest problem with such an analysis is that Ostrom analysed situations in which people could mutually harm each other. I don’t think NZ presents any danger to anyone. Therefore, we have no power and no standing in the international negotiations.
I appear to be channeling Hobbes this morning.

• JC says:

“Can anyone explain how an ETS would work to restrict growth (that being the only mechanism to decrease emissions) or am I being naive?”

Given that there is some sort of consensus that a world wide ETS would only reduce AGM by about 0.02% over the next century it seems hardly worthwhile. And given its likely to cost several \$trillion to achieve you could perhaps more persuasively suggest it would better spent mitigating the effects of AGW, or indeed, putting several hundred billion into programs designed to blow the theory out of the water.. after all, if you want to make major changes to the way the world works, you want to spend trillions to justify it.. don’t you?

At any rate, the US is now heading back to an emission level last seen in 1990.. part of that is the economic downturn but mostly its people being more canny and especially using fracking to produce natural gas. Perhaps (like always?) the answer lies in using technology to fight your way out of a corner.

JC

• Remember the bit in Monty Python’s Meaning of Life where the Sergeant Major winds up marching, alone, up and down the square while the rest of the company goes to see a movie?

NZ might have Oz with it now that they’ve a carbon tax. But still…

• DetMackey says:

Does the game change in a world where counties have to reduce emissions one way or another? That is, by an ETS, tax or government paying the liability. It’s late and I have one eye on Origin.

• Bill says:

I don’t think the results change. Regardless of the how, we can still think of two states of the world: catastrophic climate change or not. As for NZ, it cannot affect the world climate. NZ’s actions matter only from a marketing perspective, so the payoff depends on how overseas consumers perceive us.

• DetMackey says:

Right, but your game led to your conclusion that the Greens are playing politics, whereas the ETS changes are about who pays in NZ not whether NZ pays. So isn’t the Greens criticism of the Government changes (setting aside daft talk of NZ Inc – something that farmers also appeal to on occasion) just usual debate on the efficiency-equity trade off in a situation where NZ is liable? The Greens favouring polluter pays, the Government favouring subsidies to farmers.

If the Greens are politicking about NZ being in an ETS and being liable, then so to is the Government – unless we’re about to fully withdraw, that is.

• Bill says:

The 2×2 game only shows that, given NZ cannot affect world climate, the benefit of participation depends on
- whether the ROW participates, and
- the extent of market reaction to our not participating.
The Greens may genuinely disagree with me on the size of market reaction, in which case they may get a different result. That’s not politics, that’s just a different view of the world.

The politics argument is in response to othersideofweightloss’s comment. Originally, the Green critique was deontological — we should care for the environment because it is the right thing to do. The argument that the NZ Greens have made is pragmatic or consequentialist — we should continue with the ETS because it is good for our exports. That shift is deeply political, and has nothing to do with the 2×2 game.

• DetMackey says:

I suspect that this is because, unless you’re a Herald columnist, the argument over whether or not addressing climate change is a good thing is over. The starting point of argument is that New Zealand is liable, and the question the Greens (and the Government) is talking about is how best to pay that liability. The stalling the Government is doing is not about the liability, but about stalling agriculture’s bill.

So we see dumb arguments from the Government about agriculture being the backbone of the economy, and (slighty less, but still mostly) dumb arguments about branding.

Yes, the arguments don’t change the game payoffs, but they do change the preferred policy once commited to the liability. And that is what each side is arguing.

The game you constructed doesn’t look like it has much to do with the Government’s ETS changes, or the reply from the Greens.

I’d rather see some discussion of the economics of the branding argument (and the other arguments the Greens have made) versus the arguments the Government’s put up for its changes.

Perhaps for another post?

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