CARB Economic Models Limited in Ability to Capture AB 32 Economic Benefits

December 5, 2008

(Sacramento, CA - December 5, 2008)— A new study released today concludes that state-of-the-science economic models, including those used for CARB’s economic analyses of California’s Global Warming Solutions Act (AB 32), are not capable of simulating the fundamental changes in California’s economy that AB 32 measures are likely to cause. While critics of ARB claim that costs might be underestimated, this new study shows that many benefits also are not represented by models and more modeling isn’t as useful as consideration of lessons from prior policies and economics literature.

 The study is timely because the California Air Resources Board (CARB) will vote on the Proposed Scoping Plan to implement the Global Warming Solutions Act of 2006 (AB 32) on December 11, less than a week away.
The study, Understanding the Challenges of Modeling AB 32 Policy, was conducted by Richard J. McCann, the Aspen Environmental Group and M.Cubed, and commissioned by Environmental Defense Fund (EDF), which cosponsored AB 32 (see full report and executive summary for policymakers).
In the new study, Dr. McCann reveals that current techniques in economic modeling can predict the general impact of a policy option, but are limited in their ability to compare different policy alternatives and predict technology innovation. Consequently, the report recommends that CARB’s policy choices are better informed by focusing on lessons and principles from other market-based programs, notably cap-and-trade, a significant policy choice in the Proposed Scoping Plan.  
“Any critiques of CARB’s economic analyses of AB 32 policies should take into account that even the most sophisticated modeling tools are limited in their ability to capture behaviors and innovations that lead to beneficial outcomes,” said James Fine, Ph.D., an economist and policy scientist for EDF. “This report highlights the advantages of market-based approaches and the difficulty in modeling those advantages.”
This study identifies several advantages with cap and trade policy, such as compliance cost minimization, technological innovation, adaptability and relief of regulatory burdens on agencies.
Key findings of the study include: 
  • CARB’s economic evaluation of the Proposed Scoping Plan relied on two computable general equilibrium (CGE) models that are the most sophisticated representations of the state’s economy available. Nevertheless, they are missing representations of economic processes that would isolate the differences between command-and-control (CAC) and market-based (MB) policies.
  • The CGE model made no comparison between market-based and command-and-control policies because it is not analytically possible to do so. However, empirical reviews of past programs find savings of 40 to 95 percent from using market-based measures. One prominent example is the U.S. Environmental Protection Agency’s Acid Rain Program, which EDF helped design.
  • The mandated 30 percent emissions reductions of AB 32, and the Governor’s Executive Order that set goals for 2050, are likely to lead to substantial changes in the state’s economy. Conventional economic models cannot compare regulatory approaches with any degree of confidence for these major initiatives because the models cannot reliably forecast economic changes that go beyond the bounds within which the models are calibrated.
  • Economic models do not capture market-based advantages specific to compliance costs, including the impacts of technological innovation or the differences among companies that lead to incentives to trade emissions allowances. These interactions are complex, self-reinforcing and adaptive, so they cannot be easily represented in models that are available today.  
  • Extensive experience indicates that while market-based programs are significantly more cost-effective than command-and-control measures, it is critical to carefully design them to ensure delivery of efficient, equitable, and lowest-cost emissions reductions.

“While it is possible to tinker with various assumptions and perform more modeling runs to try and estimate the statewide impacts of various policy scenarios, it is not likely to add valuable or reliable information to the discussion,” added Fine. “Instead, this report recommends policymakers consider knowledge and experience about the basic systems of incentives for innovation and flexibility for compliance cost reduction that have been proven by other market-based policies.”

“It is critical to look beyond economic analyses,” concluded Fine. “It also is important to recognize our past experiences, the economic principles and existing regulatory portfolio in California that led to the development of the measures in the Scoping Plan. Rather than continuing with an esoteric tit-for-tat debate about the quality of modeling analyses, the broader lessons and logic provide clear rationale to move forward with the directionally sound Scoping Plan. Comprehensive, intelligent and speedy action in California can help mitigate the costs of climate change, provide an economic stimulus, improve air quality and reduce our dependence on imported energy.”