• Stuart Fowler

“The great global warming swindle”: in denial, or better science, better economics?

Channel 4’s documentary on Thursday night challenging the ‘science’ of climate change was a reminder of how difficult it can be to keep your humility and scepticism intact when all those around you seem to have abandoned theirs. Unconvinced by the certainty of others, I was keen to see it. The programme underlined three linked themes in the global warming debate that recur frequently in No Monkey Business’s take on the financial jungle: how much people’s opinions are formed on the basis of misunderstood statistics; how ideas follow the money instead of money following ideas; how ill-equipped we are to make sensible choices in the face of uncertainty. This is not an area of expertise for us but there are some interesting parallels with investment and decision making in conditions of uncertainty.

Why so sceptical? Google the ‘sun spot cycle and the stockmarket’ and you will find many references to a theory I first encountered only a few years into my investment career, linking solar activity with the business cycle and the bull and bear phases of stockmarkets. The idea that solar flares influenced human behaviour in a predictable way was about as credible as fluctuating skirt lengths on the catwalks, which was also rumoured to explain stock prices. So mini-skirts and flares went out of fashion and out of my mind.

Yet when it came to wondering first what might explain the slow cycles in the earth’s mean temperatures, and hence the recent up cycle, I was inclined to believe it probably did have something to do with the sun – oh, and the clouds too. I was less inclined to believe it was all to do with something that was only around in the recent tiny proportion of the planet’s life so far and which represents a tiny proportion of its atmosphere. But what do I know?

Because I work with time series data, I was also keenly aware that it was perfectly possible for people to present as ‘science’ interpretation of climate data that was, from a statistical point of view, hypothetical rather than proven. Or in Al Gore’s case, in his Hollywood polemic, merely visual correlations can be presented (and seen) as proof of cause and effect. Something else we regularly see in the investment business is also a fundamental aspect of the climate debate: how do we distinguish between a cyclical phase and a new trend?

What Martin Durkin’s documentary does, even if it has some of its own annoying polemic, is remind us that the so-called science of global warming is still largely hypothesis. Perhaps it is precisely because the mean temperature has fluctuated so little – a variance of about 0.5 degrees centigrade from the global mean covers it. And besides, it is not the only aspect of our solar system we do not understand. So this programme was good for encouraging a dose of agnosticism.

What help is that? Well, for a start we can use it to stop ourselves feeling stupid if we do not ‘know the answer’. Apparently nobody does.

It might also encourage us in daily conversation to stand up to the obsessed non-scientists and remind them that the science of climate variance is exploratory, theoretical and hypothetical. If they are certain, it is the certainty of faith or of a received belief. Spread a little agnosticism.

Something else the programme encourages is more cynical: being alert to the notion that the politicisation of climate change may have an agenda unrelated to temperature reduction. Climate is on the same ideological battleground as globalisation and development and so its true target may be a dominant economic system and a dominant economic power.

Finally, it made me think we should put our politicians under increasing pressure to justify their taxation and spending initiatives in the name of global warming. Public opinion, particularly public hysteria, is not the best policy-maker.

Being agnostic does not mean you cannot make choices. It simply alters how you take them. That is also true of finance. What follows are some ideas about how to apply agnosticism to climate choices.

What to do There are two levels of actions: ones we choose for ourselves and ones our government (or governments collectively) will make for us.

We cannot avoid the former: even making no change in behaviour is a choice. At this level, most household economies in the use of energy are likely to be genuinely valuable, as indeed they always have been. Turning the heat down, driving more slowly, opting for more fuel-efficient vehicles when we next change them, walking more: these are low-cost and low-impact options.

Economies in fossil fuel consumption bring advantages for advanced economies because of their vulnerability to political disruption. However, replacement of imported oil and gas by alternative energy sources comes at a high resource cost and so the economics must be understood as well as the politics. Energy security is the real utility, but is not satisfied at literally any price. Whatever the real utility, these are choices countries like the UK will claim to be making in the name of climate change, to resonate with both a domestic and foreign audience.

At the government level, policies to encourage a cleaner environment have also been valued by its citizens for over 50 years. This is also an energy policy driver that does not need a judgement about climate change.

Given the importance of climate change in the popular mind, and observing the opprobrium that sceptics in the Bush administration have attracted, our government must have a position. As a signatory of the Kyoto Protocol, it has chosen to accept publicly the idea that greenhouse gases are the cause of rising temperatures and they they will, if not checked, lead them to rise beyond the range of variance observed historically. In other words, it has accepted the hypothesis that others call ‘the science’.

What about the Stern Report? Last year it commissioned an independent economic report to act as a basis for a set of policy choices to deal with this expected continued increase in temperature. Sir Nicholas Stern’s review, published in October, does not add anything to the debate about cause and effect. That was not its purpose, so it should not be quoted as another or independent source of support for the climate forecast. His job, as an economist, was to prescribe policies to deal with the effects of other people’s forecasts.

The effects he assumed were based on the upper end of the range of forecasts for temperature increase. This is as open to challenge as any dinner table conversation between non-scientists about global warming.

The initiatives he argues should be made globally between now and 2050 aim to cut emissions per unit of GDP by 75% – in other words prevent emissions growing in line with the world economy. The contribution of households, in home energy use and transport, is tiny. The big contributions are power production and deforestation. Much of this cost arises in the less-developed economies who can least afford it so the case is made for aid by developed nations to the developing to help pay for the initiatives required.

The costs of the initiatives are put by Stern at 1% of global GDP by 2050 – or 1.8% for the richest nations combined. He argues that not spending this amount will (based on the temperature increase assumptions) reduce GDP by 20% of what it would otherwise be by 2050.

The job of an economist is to value the consequences of actions (including of taking no action) so as to assess in an objective way the merit of the different actions. In reviewing the Stern report, what other economists have observed about his evaluation of the actions is that he has assigned a very high value to solving problems that will benefit future generations. In other words, he says that it is just that today’s generation should make a sacrifice now to benefit those living on the planet in the future.

This may be a compelling argument in some people’s belief systems but it is not consistent with how people actually make trade-offs involving inter-generational transfers, as we can observe from required payoffs from new investment in business or deferral of consumption in households. It is how we might wish the world to be but not how it is.

Indeed, our interest in this was piqued by its parallels with the trade offs we have to make as investment planners for wealthy households. Because we plan in real terms, the risk free rate against which we need to trade off distant benefits has for some time been very close to 1% pa – this being the long-dated index linked gilt yield. This is as close as you can get to a market estimate of a pure discount rate for time alone. We debate this frequently in No Monkey Business and we try to be agnostic about the ‘correctness’ or sustainability of such a low rate. It is much lower than was generally expected when inflation-proofed securities were launched and may be distorted down by the accounting changes affecting pension funds, yet there is clearly a case for arguing it should be only about 1-1.5%.

Google ‘global warming discount rate’ and you will find a range of alternative economic reviews that assume a much higher discount rate more applicable to long-term business investment: around 3% pa in real terms.

The discount rate assumed by Stern is about 0.1%. Hence the observation by others that what Stern says about taking action today is predicated entirely on a different view of intergenerational equity. On a more normal basis of evaluation, it is far from clear we should be spending money today to cut carbon emissions or force costs today on the developing world. You can make what you like of this difference, but at least see it for what it is. Like the science, it is not as simple as some people want you to believe.

As a taxpayer, realising this, you might well want the money spent differently, such as improving our understanding of the causes of climate variance.

The Copenhagen Consensus This is also worth researching if you are not familiar with it and want to understand better how politicians should be prioritising their aid and investment, without undue influence by the media and public opinion.

This 2004 conference of leading economists was asked to select a limited number of options for solving problems the world faced, based on rational assessment of costs and payoffs – and assuming a limited budget of $50 billion (which is realistic since taxpayers have to approve the spending). Each of 10 general problem areas were addressed by a specialist economist in that field. A panel of eight other economists (including four Nobel prize winners) got to vote. Intriguingly, a parallel group of university undergraduates from different countries went through the same process, with very similar results.

The high priorities selected for the limited budget were HIV/AIDS, malnutrition, malaria, trade liberalisation, agricultural technology and migration.

Three global warming projects were presented by the economist William R Cline: two version of carbon taxes and the Kyoto Protocol. These were rejected because their costs exceeded the likely benefits. The Intergovernmental Panel on Climate Change estimates (also relied on by Stern) were accepted as given. The discount rate selected by Cline was 1.5% on the basis that it was a good estimate of the pure time rate.

Carbon taxes In practice, carbon taxes do not exclude other budget items as they could be raised with the intention of reducing emissions or emissions growth and then spent on something other than (and more beneficial than) climate change. As noted earlier, there are other reasons for promoting fuel efficiency and fossil-fuel replacement.

In the UK, action along the lines of carbon taxes looks like a near certainty. Public opinion is baying for action of some sort and higher taxes are going to be needed from somewhere to balance the books. It is all too convenient.

#climate #models


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