Dismantling the carbon foundation of capitalism for a sustainable future
By Brendan Maton
Capitalism is founded on carbon, yet harnessing expectations to unshackle the economy from the burden of history is easier than narrow economic methods suggest. This is one arresting thought from Dimitri Zenghelis, leader of the Wealth Economy project centred at Cambridge University and visiting senior fellow at the London School of Economics Grantham Research Institute.
From the first steam-powered machines of the Industrial Revolution to the first mass-produced car, first coal then oil and gas have been the energies driving economic change. At the same time, climate change poses the biggest existential threat humanity has ever faced. With this in mind, Zenghelis asks can we address climate change and environmental sustainability and leave a future that is cleaner, quieter, safer, more technologically advanced and prosperous than the alternative? It is becoming increasingly evident the threat is not only surmountable, and has been for some time, but that our very efforts to overcome these threats can impart substantial benefits and profits to society.
Yet many mainstream economists have neither understood nor contributed to this process well, despite the fact that theories of expectation augmentation, strategic complementarities, games and path-dependency have long been understood by economists. The standard economic approach used in mainstream climate models to predict the future makes assumptions about technologies, tastes and preferences and institutions that will exist in decades to come and use them to impose long-term structural solutions to their models. When looking two or three years ahead, this makes sense. But when looking decades ahead, these imposed structural assumptions are precisely the things we need to know when predicting the costs of decarbonisation. How will technologies emerge, how will tastes and preferences change, what underlies a shift from one energy and production network to another, how do consumers change habits and social norms? These things will determine the ease with which we might combat climate change. In many cases, these elements are subject to great inertia until they reach a tipping point where expectations change rapidly and technologies switch from one network to another.
For example, as enough players shift investment and new technologies are deployed, learning and experience improve performance and lower the costs of clean technologies. The cost of finance in what were formerly considered niche markets would also fall. The development of new business lobbies, supportive institutions and behaviours and new skills would be expected to reduce unit costs further. This makes deployment of these technologies even more attractive until incumbent technologies, products and networks become redundant.
As a consequence, energy reliance is tilting fast towards renewables, Zenghelis told the audience at his UCL Rethinking Capitalism lecture. In the last six years, the UK for example has cut coal’s share of energy production from 40% to 5%. The cost of solar panels has fallen 83% since 2010.
But the problem is worse than one of spurious precision and bad forecasts. Economists who use static models not only get the future wrong, they make the future wrong by generating what game theorists call an inferior Nash equilibrium. To the extent that such models are believed, they become self-fulfilling. Models that overstate the cost of decarbonisation discourage businesses and policymakers from investing in renewables and energy efficiency. This slows the rate at which the costs come down, making decarbonisation harder.
This assumption of a presupposed static equilibrium works when the behaviour of society is fairly stable and the norms of economic activity do not change much. Incorporating these features of path-dependent phenomena — knowledge spillovers, network effects, switching costs, feedbacks, and complementarities as well irreversible and potentially catastrophic climate impacts — into economic models is difficult and often leads to a multiplicity of ‘equilibria’, each dependent on a different development path. Yet they are features of the real world. So when confronted with a challenge as mighty as restricting net global emissions of greenhouse gases to zero within sixty years, economists need to move beyond static economic models and their associated assumptions. To achieve zero net emissions involves rethinking how we build cities; what kind of food we grow or manufacture; what materials can sustainably be mined and how they then get transported. In an era of globalisation, the answers also require a high degree of international consensus over a long period of time. It also requires recognising the near-term opportunities associated with transitioning to new modes of production.
Take just one example: the consequences of replacing combustion engines with electric vehicles. Zenghelis quotes a recent study in that one category of particulate, PM2.5 is responsible for 432,000 deaths in the European Union alone. The same particulate is estimated to cost at least 10% of GDP, according to the World Resources Institute.
To reduce these carbon-related problems, more electric and autonomous vehicles would help; car-sharing and smarter ways of working that reduce the need for car journeys altogether would help even more. Re-planning the layout and infrastructure of cities enables electrification but also, if done right, lowers congestion altogether. The nature of car manufacture alters; the burden on healthcare services for respiratory illness lessens. And this is all from only one strand of the shift towards decarbonisation.
The right way is to understand climate change mitigation as endogenous, understanding that the development of greater wind and solar energy increases the demand for these sources, which lowers the production costs, which overcomes opposition to further construction, which brings in more competitors.
At play here is group psychology. In many countries even today climate-change adaptation is considered a minority campaign. In part this is because an economy founded on carbon is “locked into” our senses, by petrol stations, exhaust fumes, chimneys, paints and chemicals that require special handling, slogans and sponsorship by fossil fuel brands. It is not just economists who struggle to see the future.
Another big factor is that incumbents whose fortune is built on carbon are better placed to lobby politicians to block change. They know who they are and what they stand to lose while potential new entrants may not exist. Even while attempting some adaptation to lower carbon dependency, they can use greenwash to slow the rate of change. The beneficiaries of a cleaner world, on the other hand, are not gathered together initially, even if the argument is that climate change affects us all. They also initially lack institutional status or lobby groups.
But that balance of power between incumbents and campaigners is swinging towards the latter as more bodies, notably governments, accept their role in transitioning from carbon.
And this is where Zenghelis sees national policy as crucial for steering society along certain paths towards renewability. Once directions, in PV screens or wind turbine capacity, are given by the State, then industry and capital develop organically along those lines. Cheap prices always help, and in many countries, renewables are now cost-competitive with fossil fuels in energy generation. But it was State subsidies that helped that competition in the first place.
The most important characteristic of State policy here is credibility. No one likes to follow vague directions. But credibility itself becomes easier when more of your peers choose to enact similar policies. This co-commitment in transitioning to a sustainable economy is in train as more governments and organisations produce policy and regulation in this direction. Zenghelis notes that even when President Trump declared the US would pull out of the Paris Agreement, other countries did not follow suit. They recognised that the US was undermining its own competitiveness. The US has form in this regard. For decades US car producers lobbied State and Federal Government for cheap ‘gas’ at the pumps. Relying on cheap petrol left the US car industry uncompetitive once oil prices rose, when Asian and European competitors built lightweight, fuel-efficient rivals. The US could falter again if it continues to steer its brand of capitalism in the 21st century to rest on carbon.
Zenghelis ends by paying tribute to dynamic endogenous models of the kind developed by Paul Romer. These accept the truth of path dependence and feature a strong role for expectations and psychology. Zenghelis points out that Romer makes the important distinction between ‘complacent optimism’ and ‘conditional optimism’. He states: “Complacent optimism is the feeling of a child waiting for presents. Conditional optimism is the feeling of a child who is thinking about building a treehouse. ‘If I get some wood and nails and persuade some other kids to help do the work, we can end up with something really cool.’” He adds: “What the theory of endogenous technological progress supports is conditional optimism, not complacent optimism. Instead of suggesting that we can relax because policy choices don’t matter, it suggests to the contrary that policy choices are even more important than traditional theory suggests.”
Zenghelis concludes that policymakers and economists should pay less attention to forecasting the future and more attention to steering and investing in it. If we act quickly, a sustainable future could be cleaner, quieter, safer, more technologically advanced and more prosperous than the alternative.
Dimitri Zenghelis is leader of the Wealth Economy project centred at Cambridge University and visiting senior fellow at the London School of Economics Grantham Research Institute. He recently presented a lecture as part of of our Rethinking Capitalism undergraduate module on “The economics of climate change”. These lectures will be released weekly to the public. Follow us on YouTube for more or check this page weekly.
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