The ultimate question policy makers are interested in is how to reduce climate change vulnerability most cost-effectively:

(1)

The Optimal Timing and

Investment Size of

Adaptation and Mitigation

Strategies

Venice, April 2nd 2009

Carlo Carraro, Francesco Bosello,

Enrica De Cian

Fondazione ENI Enrico Mattei

Failure of implementing national and international mitigation policies

and increasing awareness of climate inertia gradually put adaptation

under the spotlight of science and policy

Although UNFCCC (1992) already referred to adaptation (Art. 2

and Art. 4), adaptation has become a strategic negotiation item only

recently (e.g. the Bali action plan, COP14)

The ultimate question policy makers are interested in is how to

reduce climate change vulnerability most cost-effectively:

- knowing the size and the regional distribution of damages

- the cost effectiveness of alternative policies

- their strategic complementarity/trade-off

Optimal strategy mix using mitigation and adaptation

(2)

The Optimal Timing and Investment Size of Adaptation and Mitigation Strategies 2

Outine

1.The Witch model and its damage function

2.The adaptation module

3.Model calibration and baseline

4.Adaptation vs mitigation: results

5.Sensitivity analysis

6.Concluding remarks

1.1 The Witch Model and its Damage Function

A

dynamic integrated model

of the world economy assessing the

optimal response(s) of the economic system to climate change

impacts and policies based on cost effectiveness or cost efficiency

considerations.

Hybrid

: it is an optimal growth model with perfect foresight (top down

view of economic development) with a bottom up specification of

the energy sector, featuring 15 technologies. Investment in each of

them is a strategic decision variables

Regions interact

through GHG emissions, technology spillovers,

energy markets, and trade of carbon permits. Hence,

game-theoretic approach. Cooperative and non cooperative solutions can

be computed.

Hard linked model

: Global mean temperature feeds back into each

regional economy through a reduced-form damage function

The model is solved numerically.

(3)

The Optimal Timing and Investment Size of Adaptation and Mitigation Strategies

4

₄

Each region chooses the optimal path of a set of control variables that maximise

own social welfare (intertemporal utility of per capita consumption), with a

declining pure rate of time preference:

subject to the budget constraint

Key control variables are investments in different energy generating technologies,

in technical change and in physical capital.

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1.2 The Witch Model: the non-cooperative solution

1.3 The WITCH model: Damage Function

As in Nordhaus and Boyer (2000), WITCH damage function

includes

adaptation

as a component of total climate change costs, however it

does not

separate protection costs from residual damage.

Adaptation (pooled) is then assumed to be at its optimal level

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Global mean temperature feeds a

region-specific quadratic damage

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including

adaptation costs

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wedge between gross and net

output

(4)

1.4 The WITCH model: Regional Damage

Regional Damage Functions

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2005 2010 2015 2020 2025 2030 2035 2040 2045 2050 2055 2060 2065 2070 2075 2080 2085 2090 2095 2100

Time horizon

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Climate change is damaging for all regions only after 2080,

when global mean temperature increases above 2.5°C

(compared to pre-industrial levels)

2.1 Modelling

Adaptation in the WITCH model

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Climate Change Damage NET of

adaptation (residual damage) drives a

wedge between gross (YG) and net

output (YN)

Adaptation can reduce damages from

climate change

Climate change damage depends on

temperature

Adaptation is costly => it competes with alternative uses of regional income

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(5)

2.2 Three types of Adaptation

Total adaptation can be decomposed into:

- Anticipatory or pro-active adaptation

- Reactive adaptation

- Knowledge adaptation

2.3 The Adaptation Tree

Adaptation

Anticipatory or proactive

adaptation

(modelled as a stock variable

e.g. dikes)

Reactive Adaptation

Expenditure in reactive

adaptation

(modelled as a flow variable

e.g. air conditioning)

Accumulation of reactive

adaptation knowledge

(modelled as a stock variable)

CES Æ

σ = 0.9

(6)

3.1 Calibration

Proactive Adaptation Activities Constituting

SAD

n,t

Æ Modelled as “stock” variable

Coastal Protection Activities

Settlements and Other Infrastructures (Excluding Water) Protection

Activities

Water Supply (Agriculture and Other) Protection Activities

Setting-up of Early Warning Systems

Reactive adaptation activities constituting

ERAD

n,t,

Æ Modelled as “flow” variable

Agricultural Adaptation Practices

Treatment of Climate-Related Diseases

Space Heating and Cooling (OWM)

Innovation in adaptation constituting

KRAD

n,t,

Æ Modelled as “stock” variable

Research Activities for the Development of Climate-Resilient Crops

Research Activities in the Health Sector

A set of adaptation strategies has been identified for each “type” of adaptation

3.2 Calibration: methodology

Starting from Nordhaus aggregated estimates

total climate change damage = adaptation costs + residual damage

Costs and effectiveness (% of damage reduced) for each of the

strategies identified and for each region of the WITCH model, has been

specified according to extrapolations and meta analysis of the latest

available literature at one specific calibration point: doubling of CO2

concentration (that in the WITCH model occurs between 2060 and 2065)

Then the parameters of the adaptation function(s) have been calibrated

in order to replicate with the model observed data at the chosen

(7)

3.3 Calibration: methodology

Adaptation costs: extrapolation from the literature and calibrated values with

the AD-WITCH model

3.4 The

new baseline

By running WITCH with the adaptation module, a new baseline has been

produced. It’s characterized by the following features:

(1) All adaptation strategies are used: the optimal portfolio of strategies includes

reactive, anticipatory measures and investments in dedicated knowledge

(2) Proactive adaptation starts before reactive adaptation: it is the main adaptation

measure until 2080, but then reactive measures prevail, when the damage is

sufficiently high.

(3) Regional patterns of adaptation modes are determined by regional vulnerability.

In NON-OECD regions reactive adaptation is used more.

(4) Adaptation R&D is not performed in NON OECD countries (where it would be

needed the most), but in OECD countries where the required resources and

infrastructures are located.

(5) The possibility to adapt reduces the need to mitigate and emissions increase,

however damage is lower

(8)

3.5 The baseline:

all adaptation strategies are used; proactive adaptation first

PROTECTION COSTS - WORLD

0.00 0.10 0.20 0.30 0.40 0.50 0.60 0.70 0.80 0.90 2005 2010 2015 2020 2025 2030 2035 2040 2045 2050 2055 2060 2065 2070 2075 2080 2085 2090 2095 2100 % G D P 0.000 0.001 0.001 0.002 0.002 0.003 0.003 0.004 0.004 0.005 0.005 % GD P ( K no w le d ge ) REACTIVE ADAPTATION ANTICIPATORY ADAPTATION KNOWLEDGE

Anticipatory adaptation implies building a stock of defensive capital that

must be ready when the damage occurs. Given “economic inertia”,

investment in defensive capital needs to be undertaken well in advance.

Reactive adaptation is more rapidly effective and it can be put in place

when the damage effectively materializes.

3.6 The baseline:

reactive adaptation prevails in NON OECD countries

In OECD countries the higher share

of CC damages originates from

infrastructures and coastal areas,

whose protection requires a form of

adaptation that is largely

anticipatory (of the stock type)

In NON-OECD countries a higher

share of CC damages originates

from agriculture, health, and energy

sector (space heating and cooling).

These types of damages can be

accommodated more effectively with

reactive measures (of the flow type)

PROTECTION COSTS - OECD

0.00 0.10 0.20 0.30 0.40 0.50 0.60 0.70 0.80 0.90 2005 2010 2015 2020 2025 2030 2035 2040 2045 2050 2055 2060 2065 2070 2075 2080 2085 2090 2095 2100 % G D P 0.000 0.001 0.002 0.003 0.004 0.005 0.006 0.007 0.008 0.009 0.010 % G D P ( K now le dge ) REACTIVE ADAPTATION ANTICIPATORY ADAPTATION KNOWLEDGE

PROTECTION COSTS - NON OECD

0.00 0.10 0.20 0.30 0.40 0.50 0.60 0.70 0.80 0.90 2005 2010 2015 2020 2025 2030 2035 2040 2045 2050 2055 2060 2065 2070 2075 2080 2085 2090 2095 2100 % G D P 0.0000 0.0002 0.0004 0.0006 0.0008 0.0010 0.0012 0.0014 % G D P ( K now le dge ) REACTIVE ADAPTATION ANTICIPATORY ADAPTATION KNOWLEDGE

(9)

3.7 The baseline:

Adaptation R&D performed mainly in OECD countries only

R&D investment in developing

countries which in 2100 is

roughly 1/10 and 1/5 of that of

developed regions in % of GDP

and absolute values respectively.

Investments in R&D increase the

“productivity” of reactive

adaptation.

Needed in developing countries,

but performed in developed

countries:

Æ

market failure to be corrected

with an appropriate policy

PROTECTION COSTS - OECD

0.00 0.10 0.20 0.30 0.40 0.50 0.60 0.70 0.80 0.90 2005 2010 2015 2020 2025 2030 2035 2040 2045 2050 2055 2060 2065 2070 2075 2080 2085 2090 2095 2100 % G D P 0.000 0.001 0.002 0.003 0.004 0.005 0.006 0.007 0.008 0.009 0.010 % GD P ( K no wl ed ge ) REACTIVE ADAPTATION ANTICIPATORY ADAPTATION KNOWLEDGE

PROTECTION COSTS - NON OECD

0.00 0.10 0.20 0.30 0.40 0.50 0.60 0.70 0.80 0.90 2005 2010 2015 2020 2025 2030 2035 2040 2045 2050 2055 2060 2065 2070 2075 2080 2085 2090 2095 2100 % G D P 0.0000 0.0002 0.0004 0.0006 0.0008 0.0010 0.0012 0.0014 % GD P ( K n o wl ed g e) REACTIVE ADAPTATION ANTICIPATORY ADAPTATION KNOWLEDGE

3.8 The baseline:

emission increase

Adaptation, offering an additional option to reduce the negative

impacts of climate change, diminishes the need to curb emissions

which increase

Æ

higher increase where damages are larger

0.00% 2.00% 4.00% 6.00% 8.00% 10.00% 12.00% 2005 2010 2015 2020 2025 2030 2035 2040 2045 2050 2055 2060 2065 2070 2075 2080 2085 2090 2095 2100 P er cen ta g e c h an g e w .r .t. B A U USA OLDEURO NEWEURO KOSAU CAJAZ TE MENA SSA SASIA CHINA EASIA LACA

(10)

3.9 The baseline:

damages are reduced

However even with higher emissions, adaptation

reduces the damage inflicted by climate change

RESIDUAL DAMAGE - WORLD

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WITHOUT ADAPTATION WITH ADAPTATION TOTAL DAMAGE

Total protection costs

3.10 The baseline:

consumption and GDP are higher

As with adaptation higher emissions can be tolerated, the new

baseline scenario is characterized by higher investments, output

and also consumption (welfare)

0.46% 0.15% 1.20% 0.00% 0.20% 0.40% 0.60% 0.80% 1.00% 1.20% 1.40% NPV (3% discounting) % c h a n g e w. r. t. to B A U GROSS WORLD PRODUCT CONSUMPTION INVESTMENTS

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4.1 The relationship between adaptation and mitigation

- Optimal investments in mitigation and adaptation

as measures to stabilize concentrations at 550

ppme within the century

- Baseline with (optimal) adaption(s) but no

mitigation

- First best set-up (global and efficient cap and

trade scheme)

4.2 The relationship between adaptation and mitigation

Stabilization policy reduces the damage and thus lowers the need to

adapt Æ The expenditure on all three adaptation strategies

decreases.

(But the time profile and the optimal composition of adaptation

strategies remain unchanged)

PROTECTION COSTS - WORLD

0.00 0.10 0.20 0.30 0.40 0.50 0.60 2005 2010 2015 2020 2025 2030 2035 2040 2045 2050 2055 2060 2065 2070 2075 2080 2085 2090 2095 2100 % G D P REACTIVE ANTICIPATORY REACTIVE WITH MITIGATION ANTICIPATORY WITH MITIGATION

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4.3 The relationship between adaptation and mitigation

GLOBAL RESIDUAL DAMAGE AS A PERCENTAGE OF GDP

0.0 0.5 1.0 1.5 2.0 2.5

2005 2010 2015 2020 2025 2030 2035 2040 2045 2050 2055 2060 2065 2070 2075 2080 2085 2090 2095 2100

% G D P

MITIGATION AND OPTIMAL

ADAPTATION

MITIGATION

Cost of mitigation policy as a percentage of GDP is higher in the

presence of adaptation Æ recall emissions are higher

However residual damage is much lower with adaptation. This can

give an indirect indication of the existence of strong cost saving

opportunities to reducing damages by exploiting mitigation and

adaptation jointly.

5.1 Sensitivity analysis

The optimal mix between adaptation and mitigation crucially hinges on

the size of climate change damages and the pure rate of time

preference

We analyzed three additional cases that consider different

combinations of discount rate and damage

LDAM_LDR: low damage – low discount rate (0.1%)

**HDAM_LDR: high damage* – low high discount (0.1%)**

HDAM_HDR: high damage – high discount rate (3%)

The baseline is characterized by low damage and high discount rate

(LDAM_HDR)

(13)

5.2 Sensitivity analysis:

adaptation effort

Both higher damage and lower discount rate increase adaptation

effort

A lower discount rate increases also the value of future consumption

which reduces the resources available for adaptation

Total P rotection C osts as a percentage of GD P 0 0.2 0.4 0.6 0.8 1 1.2 1.4 1.6 1.8 2 20 05 20 10 20 15 20 20 20 25 20 30 20 35 20 40 20 45 20 50 20 55 20 60 20 65 20 70 20 75 20 80 20 85 20 90 20 95 21 00

Base case Higher dam age Lower discount rate

5.3 Sensitivity analysis:

adaptation composition

Higher damages and lower discount rates increase expenditure in all

types of adaptation

A lower discount rate slightly affects the composition of protection

costs. More resources are allocated to anticipatory and knowledge

adaptation rather than reactive adaptation

LDAM_LDR HDAM_HDR HDAM_LDR

Reactive Adaptation

9%

82%

90%

Anticipatory Adaptation

42%

97%

170%

Knowledge Adaptation

59%

120%

234%

(14)

6.1 Concluding remarks /

1 Characteristics of the optimal adaptation mix:

Characteristics of the optimal adaptation mix:

Composition

The optimal mix of adaptation strategies consists of reactive and

anticipatory measures and investments in dedicated knowledge.

Timing

Proactive adaptation is the first measure to be adopted and is the

main adaptation investment until 2080. Reactive measures prevail

afterwards, when the damage is higher.

Regional patterns

Regional patterns of adaptation modes are determined by regional

vulnerability. In NON-OECD regions, reactive adaptation is more

effective and thus more widely adopted.

Dedicated R&D

R&D is not performed where it would be needed the most, but where

there are the required resources and infrastructure, namely OECD

regions.

6.2 Concluding remarks /

2 Trade

Trade

-

off

The introduction of adaptation decreases the need to mitigate and vice

versa. The two strategies are strategic complements as they both

concur to reduce vulnerability to climate change. Accordingly, they

should both be part of an optimal portfolio of policies.

This is particularly important for developing countries: being

characterized by higher damages, they are the ones that can benefit

the most from an optimal combination of the two strategies. This is a

further suggestion for an international North-South cooperation to

design an integrated climate change policy based on coordinated

mitigation and adaptation efforts

(15)

Corso Magenta 63, 20123 Milano - Italia - Tel +39 02.520.36934 - Fax +39 02.520.36946 - www.feem.it

Thanks!

Adaptation curves ‐ OECD

0.0% 0.5% 1.0% 1.5% 2.0% 2.5% 3.0% 0.00 0.10 0.20 0.30 0.40 0.50 0.60 0.70 0.80

Adaptation (fraction by which gross damage is reduced)

A d ap ta ti o n co st s as a p e rcen ta g e o f G D P in 2005 USA WEURO EEURO KOSAU CAJAZ

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Corso Magenta 63, 20123 Milano - Italia - Tel +39 02.520.36934 - Fax +39 02.520.36946 - www.feem.it

Adaptation curves – Non‐OECD

0% 20% 40% 60% 80% 100% 120% 140% 0.00 0.10 0.20 0.30 0.40 0.50 0.60 0.70 0.80 Adaptation (fraction by which gross damage is reduced)

A d a p ta ti on cos ts as a pe rc e n ta ge of G D P i n 200 5 TE MENA SSA SASIA CHINA EASIA LACA