Warwick McKibbin has a piece in today’s Fin (subscription required) endorsing the Castles-Henderson critique of the modelling behind IPCC projections of CO2 emissions. He refers back to a paper, with David Pearce and Alison Stegman, for the Lowy Institute (PDF file). I’ve read the paper and I think it’s broadly correct. On the other hand, I’ve previously argued that the Castles-Henderson critique is invalid (see also here). So what gives?
Castles and Henderson claim that the use of market exchange rates, rather than Purchasing Power Parity (PPP) exchange rates to compare national incomes renders the IPCC results totally unbelievable. Terms like “fantastic assumptions”, “astronomical” and “extraordinary” abound. Although there’s not a lot of detail, the general impression given is that the IPCC projections are out by a factor of at least three and probably more.
By contrast, I’ve argued that at the aggregate level, it shouldn’t matter whether you use exchange-rates or PPPs. All that matters is demand for energy, and effects arising from the choice of exchange rate will cancel out.
McKibbin uses a disaggregated computable general equilbrium model. In such a model you’d expect changing the basis of exchange rates to have some effect on the predicted outcomes but not much. This is indeed what happens. As the paper states (p6)
We find that by 2050 the projection of emissions from fossil fuels use based on the MER measures of GDP gaps is 22% higher than our base projection (using PPP) and by 2100, projected emissions are 40% higher than baseline emissions. About half of the higher emissions are generated from countries that are classed as developing in 2002 and about half from industrial economies. These numbers are almost 3 times those found in Manne and Richels (2003) who undertake a similar exercise. There are a number of reasons for these differences, which are open to debate.
In the context of a projection to 2050, a variation of 22 per cent is insignificant. It’s far smaller than the range of variation within the IPCC estimates. The same is true in spades for a 40 per cent error in a prediction for 2100.
Moreover, as the comparison with Manne and Richels shows, the effect found by McKibbin et al is highly fragile. Almost certainly, there are plausible variants of the model in which using PPPs produces a higher estimate of emissions than using market rates.
The correct interpretation of the McKibbin et al and Manne and Richels studies is that, within the range of precision that any estimate of emissions in 2050 can have, it doesn’t matter much whether you use PPP or market exchange rates. This is, of course, directly opposite to what is claimed by Castles and Henderson.
Having said all this, I agree with McKibbin that the IPCC models were not done in the way an economist would like, and didn’t add a lot to our understanding of the economic issues involved in climate change. But this is no justification for endorsing the clearly erroneous claims made by Castles and Henderson.