The measures taken by governments worldwide to slow the spread of COVID-19 have led to a drop in economic activity, with a corresponding decrease in greenhouse gas (GHG) emissions. Industrial facilities in many countries are shut down or produce far below their potential; road and air traffic have slowed due to restrictions on commercial and personal travel. As a result of the severe contraction in economic activity, less fossil fuel is used in electricity generation and transportation, while industrial facilities generate fewer process-related emissions. Unless it is quickly reversed, this decline in economic activity may lead to the first drop in annual global GHG emissions since 2008/2009, the start of the last financial and economic crisis.
However, as soon as output picks up again, emissions are likely to recover quickly, as happened in 2008/2009. The challenge of containing the increase in average global temperatures to 2 or better 1.5 degrees centigrade, as agreed to under the Paris Agreement, remains largely unchanged. Zaklan et al. (2020) examine sectors covered by the EU’s Emissions Trading System (EU ETS) – which represent about one half of European GHG emissions – and find that the minimum contribution in line with European commitments under the Paris Agreement requires almost doubling the speed of decarbonization during this decade. Delays in further abatement action will require an increasingly drastic transition from a Paris-inconsistent to a Paris-consistent policy framework and will further escalate policy uncertainty for affected firms.
Acemoglu et al. (2012) analyze how a permanent decarbonization may be accomplished in a model of green growth with directed technical change. They formulate an endogenous growth model, in which output can be produced using “clean” (low-emission) or “dirty” (high-emission) technology. The substitutability of output based on each technology depends on a substitution parameter. For example, in the case of electricity, the rate of substitution is high, as power may be produced equally well by fossil-fueled plants or from renewable energy. The dirty technology starts with a productivity advantage due to its larger installed base. Innovation improves the productivity of each technology, and profit-maximizing researchers pursue innovation. The more R&D is invested in improving one type of technology, the more effective innovation becomes in the future. Acemoglu et al. (2012) show that without government intervention the clean technology may never overcome the initial productivity advantage of the dirty technology. However, with the right policy mix, producing output using the clean technology can drive out production using the dirty technology. Optimally, intervention takes two forms: First, output using the dirty technology is taxed, for example through carbon pricing. Second, innovation in the clean technology is incentivized through R&D support for the clean technology.
Implementation of such a two-pronged policy approach has its challenges in practice. Government resources will likely be stretched thin after an extended period of keeping the economy afloat during the COVID-19 crisis. Therefore, introducing new carbon pricing measures or increasing the stringency of existing ones during or after the COVID-19 pandemic may be politically difficult. Moreover, with limited fiscal resources in the aftermath of the COVID-19 crisis governments may be under pressure to focus on supporting existing businesses instead of helping develop new ones through R&D policy. The increased severity of this trade-off during and after the COVID-19 crisis may slow the development of low-carbon technology. However, committing to both elements of this strategy is important to ensure the effectiveness of climate policy, even during times of limited resources. Green growth policies, for example supporting the development of renewable energy or electric vehicles, in combination with pricing GHG emissions will jointly aid the post-COVID-19 economic recovery and better align the structure of the economy with long-term emission sustainability.
Acemoglu, D., Aghion, P., Bursztyn, L., and Hemous, D. (2012): The Environment and Directed Technical Change. American Economic Review, 102(1), 131-166
Zaklan, A., Wachsmuth, J., and Duscha, V. (2020): EU ETS up to 2030: Adjusting the Cap in Light of the IPCC1.5°C Special Report and the Paris Agreement. Umweltbundesamt Climate Change 07/2020
This text was written as part of the new BSE Insights on the Corona Crisis series in which researchers of the Berlin School of Economics provide short texts with scientific content that is relevant for the crisis.