Dual discounting in forest sector climate change mitigation

1. Dual discounting in forest sector climate change mitigation Hanne K. Sjølie Greg Latta Birger Solberg Forest sector modeling workshop Nancy, France May 31, 2012

2. Outline • Discounting in climate policy analyses / forest sector • Hypothesis • Model • Results • Discussion Dual discounting in forest sector climate change mitigation

3. Basis for discounting • Social opportunity costs (SOC): Costs of capital • Social time preference (STP): • per capita economic growth (g), • the elasticity of marginal utility of consumption (η) and • pure time preference (“impatience” of individuals) (p) • STP = g×η + p • ”Should be” the same, but differ due to i.a. taxes, externalities, information Dual discounting in forest sector climate change mitigation

4. Discounting in climate policy analyses • The discount rate is very important in climate policy analyses • However, among scientists there are large disagreements regarding the magnitude of the discount rate as well as the rationale of the appropiate rate • Ex. Stern Review and the following debate: • The Review advocates for strong, rapid mitigation action as the benefits of action greatly exceed the costs • The conclusions diverge from many other economic assessment of climate policies • Moreover, “the difference stems almost entirely from its technique for calculating discount rates and only marginally on new science or economics” (Nordhaus, 2007, p. 201). • The Review used a discount rate of 1.4% Dual discounting in forest sector climate change mitigation

5. Low and dual discount rate • Stern (and many others) use arguments as ethics / intergenerational equity as arguments for using a low discount rate • Discounting environmental and non-environmental goods likewise is based on the assumption of perfect substitutability • Kula and Evans (Kula, E., Evans, D., 2011. Dual discounting in cost-benefit analysis for environmental impacts. Environmental Impact Assessment Review 31, 180–186) argues for the use of dual discount rate: One for monetary values and a lower for carbon • Their argument being as the scarcity of environmental values increases with economic growth, such values should not be included in the economic growth part of the STP Dual discounting in forest sector climate change mitigation

6. Dual discounting in forestry • Kula and Evans compare the NPV of a forestation project in Nothern Ireland using hyperbolic discount rate starting at 3.5% for all values with a dual discounting scheme where monetary values discount rate starts at 3.5% and carbon at 1.5% • The NPV of the project is negative with the single discount scheme and positive with the dual Dual discounting in forest sector climate change mitigation

7. Hypothesis Do theresultsof Kula and Evans hold in all kindsofcarbonmitigationprojects in forestry? More specifically, do theresults hold in projectswith an initial carbonstock? Or could a lowdiscount rate lead to initial harvestsbeing offset by later carbonsequestration to a higherdegree, therebyleading to less short-termcarbonsequestration? Hypothesis: When having initial carbon stocks, a lower discount rate on carbon yields less CO2 emission reductions in the short run Dual discounting in forest sector climate change mitigation

8. Analysis • Using a partialequilibriummodelofthe Norwegian forestsector • Carbondiscount rates: 0%, 2%, 4%, 6% and 8% • Monetarydiscount rate: 4% • Carbonprice: 12.5 €/ton CO2eq • Discount rate and carbonpriceareconstant over thehorizon Dual discounting in forest sector climate change mitigation

9. The forest sector model for Norway NorFor GHG Growth Forest industry Forest industry Sawnwood (county) Pulp, paper and boards (mill) Bioenergy (county) Substitution, storage Processing Decay, machines Dual discounting in forest sector climate change mitigation Combustion Forest growth, management: Biomass supply Forest growth, management: Biomass supply (9000 NFI plots) Forest growth, management: Biomass supply Demand Demand Demand for final products (county) Trade Trade (counties + 2 foreign regions) Transport

10. NorFor • Perfectforesight • Rational agents: consumers, industry, forestowners • Elasticityof foreign supply: 0.8 (logs), 5 (products) • Elasticityof foreign demand: -0.8 (logs), -5 (products) • 20 5-year periods run, 19 analyzed Dual discounting in forest sector climate change mitigation

11. Impacts on harvest Dual discounting in forest sector climate change mitigation

12. Investment in forestry Dual discounting in forest sector climate change mitigation

13. Industrial production Increase in the long run Dual discounting in forest sector climate change mitigation Decline in the long run Only marginal impacts with discount rate >= 4%

14. GHG fluxes Dual discounting in forest sector climate change mitigation

15. GHG fluxes Dual discounting in forest sector climate change mitigation

16. Discussion • Not discounting carbon yields lower GHG emission reductions in the short term but considerably higher in the long term • Carbon price harvest is below Base levels for all periods with a single discount scheme • Short-term harvests are higher with zero carbon discount rate than in both Base and 4% carbon disccount rate but considerably lower in the long run • Future carbon sequestration offsets early harvest to a higher extent with low carbon discount rate • Much more investments in forestry with low discount rate • Large shifts in industry with low carbon discount rate as NPV of substitution effects becomes relatively larger than producer surplus • Leakage is substantial particularly under low carbon discount rate but direction of results still hold with fixes trade levels Dual discounting in forest sector climate change mitigation

17. Discussion • Discounting carbon less with the aim to allocate more resources to climate change mitigation does not necessiraly yield the desired results • Main difference from the Kula and Evans study is the initial carbon stock • Important to test a new scheme on a varity of assumptions • Basic assumption of dual discounting: non-substitutable goods • Instead of dual discounting, future scarcity of environmental goods can be reflected in increasing prices – but prices can be difficult to assess due to lack of markets • Discounting in models: Market observations or policies or ethical judgements? Versus other parameters in the models Dual discounting in forest sector climate change mitigation

18. Thank you! hanne.sjolie@umb.no