The 2018 economics Nobel shows we can’t discuss economics without considering climate change

By Nathaniel Keohane

Senior vice president for climate at Environmental Defense Fund

When William Nordhaus won the Nobel prize in economics earlier this month, it ratified climate change into mainstream economics. His pioneering work integrating climate change into models of economic growth has provided a roadmap for a future where the world’s economic health is directly linked to its environmental one.

Bill was my teacher and colleague. His intellect and writing were so sharp that having him participate in our environmental economics seminars was like having Elvis show up to choir practice.

In awarding Nordhaus this prize, the Royal Swedish Academy of Sciences did more than recognize a great economist: The committee acknowledged that we can no longer discuss our economic future without considering the enormous costs of climate change.

Our changing environment is a drag on the global economy. If you have any doubt about that, just ask the residents of the Florida Panhandle. Following last week’s Hurricane Michael, they face an estimated $4.5 billion in losses from destroyed homes and businesses. The Category 4 hurricane was supercharged by warmer ocean water. In the near term, hurricanes can hurt retail and services, manufacturing, tourism, jobs, and real estate prices, and economic analysis has found that major hurricanes can even lower long-run growth in the US and affect its economy for up to two decades.

The aftermath of Hurricane Michael.

While climate change has been caught up in our polarized politics, this Nobel is not a political statement: It is a reflection of a new reality of a warming world. Simply put, the committee recognized that if we are to understand and analyze economic growth, we can no longer ignore the trillions in costs, major agricultural disruptions, and threat to the billions of people who live along the world’s coastlines that will all arise from climate change.

The announcement on Monday Oct. 8 came just hours after the Intergovernmental Panel on Climate Change (IPCC) released a special report underscoring the urgency of acting on climate change. It shows that limiting global warming to 1.5°C compared to 2°C could save 10 million people from risk of sea-level rise and reduce the world population exposed to water stress by 50%. (The world has already warmed 1°C since pre-industrial times.) The report makes clear just how much we have to gain from limiting the rise in global temperatures—and how little time we have to act.

The IPCC has rung the alarm bell. Nordhaus’s work helps us see how to respond.

When there are no economic downsides to polluting, we all end up paying a higher cost in the form of a warming planet.

In order to correct the fundamental market failure at the heart of climate change, Nordhaus was an early advocate of policies that require climate polluters to pay the cost that they impose on all of us. A carbon tax with an appropriate mechanism to ensure pollution reductions can achieve that; so can an emission trading system like the ones underway in Europe and California.

When there are no economic downsides to polluting, we all end up paying a higher cost in the form of a warming planet. But when there’s money to be had from cutting carbon, capital will flow into developing and deploying the technologies that will do it cheaper and faster.

For much of his career, Nordhaus was a voice in the wilderness calling for economists to understand the full importance of climate change and integrate it into their models. Now any smart CEO knows that she must include climate impacts as part of her future planning. (Just ask those in the insurance industry, perhaps the financial players most sensitive to future catastrophes.)

Like any truly influential intellect, Nordhaus succeeded as much in what he got wrong as what he got right. His pathbreaking but admittedly simple model of the global economy spawned a lineage of more and more sophisticated models, all in productive tension and argument with Nordhaus’s original. He was criticized for putting too little weight on future benefits relative to current costs—an economics concept known as the “discount rate”—but that very criticism catalyzed advances in our understanding of how that rate should be chosen. His measured insistence on balancing marginal costs and benefits frustrated some environmentalists but inspired other economists to focus on the crucial role of risk and uncertainty.

It wasn’t a fluke that Nordhaus was paired with Paul Romer, this year’s other laureate. Romer was cited for his groundbreaking work on understanding innovation and technological change: a dynamic that will be vital to addressing climate change. Indeed, in the press conference to announce the prize, Romer himself said “Once we start to try to reduce carbon emissions, we’ll be surprised that it wasn’t as hard as anticipated.” This is as pithy a summary of the theory of endogenous technological change applied to climate as one could hope for.

Both Romer and Nordhaus have taught us that innovation won’t just happen on its own, and certainly not at the scale and pace needed to meet the challenge that the IPCC report underscores. The enduring legacy of both Nordhaus and Romer will be in how they advanced our understanding of policy solutions.

The IPCC special report is a stark reminder that we face a daunting future if we fail this test.  But the work of the newly minted Nobel laureates should give us hope that we can meet it—by showing us the enormous opportunity we have to foster a more prosperous low-carbon economy, and reclaim the future for our children.

Bill Nordhaus has been making that case for a quarter century. It’s about time the rest of the world caught up.

This article is part of Quartz Ideas, our home for bold arguments and big thinkers.

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