Balancing Costs and Benefits
Authors:   , van der Wijst Kaj-Ivar 
Published: March 2024

As the world continues to emit large amounts of greenhouse gas emissions, the global mean temperature has already increased by 1.1°C, and could increase to over 3°C by the end of the century if no climate policies are implemented. This would lead to unprecedented, widespread and devastating impacts of climate change. The emission of greenhouse gases needs to be reduced drastically to limit these impacts. However, determining optimal climate policy (including the level of ambition) is very challenging, mainly because climate change is a long-term problem with many uncertainties, and because damages are expected to occur unequally over regions and generations.

In this thesis, we combine new estimates of the economic costs of climate change and compare those with the costs of reducing emissions through climate policies by examining various aspects of cost-optimal climate policy. To that end, the main research question of this thesis is: “How could climate policy be effectively designed on the basis of cost-benefit analysis, taking into account new insights in the costs of climate policy, the damages of climate change, and key uncertainties?” To answer this question, we have developed a new Integrated Assessment Model, called MIMOSA, which combines the geophysical aspects of climate change with the human and socio-economic aspects.

This research has led to the following main conclusions.

The uncertainty in climate change damage estimates is found to have a large impact on the optimal design of climate policy. Moreover, effective climate policy should consider key uncertainties when basing decisions on cost-benefit analyses. The uncertainty in climate damage estimates accounts for 50% of the uncertainty in determining the optimal temperature target, while the uncertainty in mitigation costs, the discount rate, and the damage function account in equal parts for uncertainty in the initial carbon price in cost-effectiveness setting.

The benefits from avoided damages outweigh the mitigation costs required to stay well below 2°C for almost all uncertainty estimates, except when damages turn out to be very low. This provides strong economic validation of the Paris Agreement. Under medium assumptions of damages and discounting, the cost-optimal temperature is below 2°C, and for low discount rates or high damages, this drops to 1.5°C. Moreover, the Benefit-Cost Ratio is 1.5-3.9 for a well-below 2°C target. The benefits, however, occur mostly in the second half of the century and beyond, while the mitigation costs mostly happen upfront, earlier in the 21st century.

These climate impacts are not equally distributed across regions. It is therefore important to also take damages into account when considering equitable distributions of mitigation effort.

Finally, cost-benefit analysis using Integrated Assessment Models is a useful tool to support climate policy assessment, but requires up-to-date estimates of climate damages and mitigation costs, needs a clear and transparent incorporation of key uncertainties, and should be complemented with more specialised and detailed tools to design effective climate policies.