Author Archive | Matthew Kahn, guest-blogging

Climate Change Adaptation as the Ultimate Test of Neo-Classical vs. Behavioral Economics

Climatopolis is an optimistic book that previews how we will individually and collectively adapt to climate change. If the world could cap global greenhouse gas production, then adaptation would be much easier. But, the world’s population and per-capita income continue to grow. Without being overly dramatic, climate change is coming. It would certainly be easier to adapt to climate change if we could stabilize global carbon dioxide levels, but I believe that the fundamental global free rider problem means that it will continue to rise. How will we respond to this anticipated but uncertain threat?

The neo-classical economics perspective views people as if they are Mr. Spock from Star Trek. This vision treats people as forward looking decision makers with rational expectations. Rational expectations does not equal perfect foresight. Instead it means that people use all currently available information in forming their best predictions of the future. Such aware individuals know “that they do not know” and invest in learning to update their priors through Bayesian updating. As climate scientists learn more and this information becomes public knowledge this information influences our investment decisions along a variety of margins including migration patterns, and the products we purchase.

In contrast, the upstart group of behavioral economists would say that most of us are Homer Simpsons who represent a set of climate change deniers or technological optimists who figure that some nerd will come up with a magical fix if and when climate change really unfolds. This view of men and women fosters a pessimistic view of our ability to adapt to climate change because it hints that a global “Titanic” day of reckoning awaits us.

But, imagine a diverse world in which for every 100 citizens; there are 97 Homer Simpsons and 3 Spocks. The self interested second group can and [...]

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Government as a “Foe” and “Friend” of Climate Change Adaptation

The New York Times has recently reported that the U.S government has invested billions of dollars in new levees to protect New Orleans from flooding. Do such placed based subsidies help us to adapt to climate change?

On one level, the answer is obviously “yes”. This investment lowers the probability that the geographical area called New Orleans floods. But, economists always question the conventional wisdom. For decades, economists have studied the “crowd out” effect. Just as the introduction of Social Security reduces individual’s private savings for retirement, a benevolent government’s new sea walls around a city can put more people at risk! An unintended consequence of households trusting the new sea walls is that it can induce more people into living in a coastal city. A cold hearted government that could pre-commit to make no investment in such infrastructure could potentially protect more people as citizens would take actions to protect themselves (i.e migrate away from coastal cities). I acknowledge that this is not a nuanced example but when evaluating the benefits of government policy we must think through how locational choices by households and firms are affected by the well intentioned government policy.

A second path through which government can hinder adaptation is through blocking free market price increases. An example is allowing insurance companies to engage in “price gouging”. For profit insurance companies could play a crucial role in helping us to adapt to climate change. If they are allowed to price discriminate and charge risk based prices for premiums then this will send strong signals to households and firms concerning which parcels of land should be avoided due to increased climate change risk. To give a concrete example, suppose that in the absence of climate change an area had a 1 in 1000 chance of suffering flood [...]

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Induced Innovation Promotes Climate Change Adaptation

As climate change unfolds, billions of people will be seeking cost-effective strategies for dealing with the consequences of heat waves, draught, sea level rise and increased natural disaster risk. We will be seeking to consume more electricity (because summer temperatures will rise in many areas around the world), more water (because of climate change’s impact on drought conditions) and facing the challenge of sea level rise. This anticipation of our collective demand for new strategies to adapt creates enormous economic opportunities for entrepreneurs. While the belief in “technological optimism” can border on wishful thinking, it is highly likely that profit seeking entrepreneurs who will have more than twenty years to bring these products to market will be ready as climate change’s blows heat up.

Over the last ten years, environmental economists have devoted substantial effort to investigating the induced innovation hypothesis. Empirical economists have noted an interesting fact. When gas prices go up, car manufacturers subsequently start selling more fuel efficient vehicles. When electricity prices go up, firms start selling more energy efficient appliances. More generally researchers, such as David Popp, have documented that energy related patenting rises during times when energy prices are high. The induced innovation hypothesis posits that as the price of an input of production rises, cost minimizers will substitute away from this factor. Intuitively, as the price of gasoline goes up, more people want to buy the Toyota Prius rather than the Hummer and auto makers will shift their portfolio of vehicles offered and direct their research labs towards designing fuel efficient vehicles.

In the case of climate change this is important, because climate change is likely to lead to higher prices for electricity and water and this will induce innovation to economize on these increasingly scarce resources. For example, if climate change exacerbates drought [...]

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Migration as a Climate Change Adaptation Strategy

In my new book, Climatopolis, I argue that anticipation is the first step in developing pro-active strategies to cope with climate change. Even if we could reduce our greenhouse gas emissions to zero today, we would still face climate change due to the cumulative stock of emissions. My book examines how cities around the world will cope. Major cities such as New York City and San Diego have been commissioning “crystal ball” studies for what their cities will be like in the mid-21st century.

Sea level rise represents a serious threat for coastal cities. The amount and the timing of such sea level rise remains an open question. In California, the Pacific Institute is using GIS software to identify areas around California that are likely to face significant flooding due to climate change. In the typical GIS analysis, researchers superimpose maps to identify the land area that is likely to be affected by climate change induced flooding. These researchers then overlay Census demographic information counting how many people and housing units are currently located in this new flood zone. The payoff of such an analysis is that we see who and how much economic activity is at risk from climate change. Within city migration protects the population against this risk.

To reduce this expected damage, society can use insurance pricing and zoning to nudge economic activity away from such at risk areas or encourage the “victims” to take actions to reduce their risk from natural disaster (i.e elevate their homes or re-enforce them with better materials).

Not all cities will suffer equally from climate change. There are over 300 major cities to choose from in the United States. A city such as Seattle may suffer much less. An implicit assumption throughout Climatopolis is that there will always be some safe [...]

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Climatopolis: How Our Cities Will Thrive in the Hotter World

Climate change will pose major challenges for nations around the world. The risks to the agriculture sector from heat waves and drought have been well studied by economists. My new book titled Climatopolis (Basic Books 2010) focuses on how cities around the world will cope with climate change.

I am not a climate scientist. Instead, I am an environmental and urban economist. This book uses basic microeconomics to think about how self interested households and firms respond to the anticipated but uncertain threat of climate change. We know that “we do not know” what climate change will mean for our cities and our nation. Since climate change threatens to disrupt our day to day lives, it creates incentives for households to seek out adaptation strategies and this creates new market opportunities for forward looking entrepreneurs.

Climate change bundles several challenges ranging from the increased probability of severe heat waves, to increased likelihood of drought. Coastal areas are likely to experience more and more severe natural disasters such as floods and hurricanes. The consequences of such events will hinge on a city’s geography, income, and institutions. In my 2005 paper titled “The Death Toll from Natural Disasters”, I documented using data from 73 nations over the years 1980 to 2002 that richer nations suffer much less death when natural disasters take place. The recent earthquakes in Chile and Haiti offer a salient contrast. Measured on the Richter scale, Chile suffered from a much worse earthquake than Haiti but the earthquake caused much more death in Haiti than in Chile. Income and education enable individuals to access a variety of coping strategies when “worst case” scenarios arise.

Throughout this week, I will return to the theme that economic development will help poor countries to adapt to climate change. My book stresses this [...]

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