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Clean Energy and Jobs: A Comperehensive Approach to Climate Change and Energy Policy

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FEBRUARY 2002 | EPI Study

Clean Energy and Jobs

A comprehensive approach to climate change and energy policy

by James P. Barrett, Economic Policy Institute,
and J. Andrew Hoerner, Center for a Sustainable Economy,
with Steve Bernow and Bill Dougherty, Tellus Institute

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1. Introduction
In the wake of rising energy prices, rolling electricity blackouts, threats to world energy markets, and ominous news of global climate changes, a broad consensus is emerging that the U.S. needs to improve its energy efficiency and diversify its sources of energy supply. Industry and workers realize that they need energy sources that are reliable and secure against international price shocks and domestic market manipulation. Consumers seek lower, more predictable energy bills. Environmentalists seek to reduce adverse impacts at every point on the fuel cycle, from extraction through combustion. Perhaps the most serious of these environmental concerns arises from the fact that fossil fuel combustion emits greenhouse gasses, gasses that most leading climate scientists believe cause global warming and climate instability.

Energy industries and others have argued that policies to reduce carbon emissions or promote new energy sources could impose debilitating costs on the economy. Some labor and consumer groups have also raised concerns that such policies have adverse impacts on low-income households, on workers in particular industries, and on the economy as a whole. These concerns have been bolstered by a series of studies that portray grave economic consequences from policies to improve energy efficiency or reduce carbon emissions, especially when those policies are implemented through large increases in energy taxes without returning the revenue gained through cuts in other taxes. Working people and consumers want both a strong economy and a clean environment, yet some approaches to climate and energy policy would hurt economic growth and bring these interests into collision.

This study assesses the impact of an alternative approach to climate and energy policy. Based on an extensive review of the literature and of the experience of other nations, it attempts to assemble a set of policies that would provide moderate but steady increases in energy efficiency and reductions in carbon emissions, while improving overall economic efficiency. It then estimates the macroeconomic impact of these policies. This alternative policy package has four main elements:

  • a modest carbon/energy tax on major energy sources, with most of the revenues returned through cuts in taxes on wages;

  • a set of policies to promote the development of new energy-efficiency and renewable energy technologies;
  • policies to offset competitive impacts on energy-intensive industries; and
  • transitional assistance to compensate any workers and communities harmed by the policies.

The policy package is self-funding in that the costs of the transition fund as well as the administration of the technology policies are paid entirely by the tax receipts it generates. The package is designed to minimize the burden on workers and consumers and provide help for those who would suffer if energy production were reduced. It is informed by a list of principles adopted by the Just Transition and Market Mechanisms Working Group of the Labor-Environment Dialogue on Climate Change. (See Appendix A for a discussion of these principles.)

The package modeled here stands apart from other studies in the U.S. literature in that it attempts to combine the best elements of a market-based approach, policies to promote investment and technology, competitiveness policies, and equity concerns. No previously published U.S. study has conducted a macroeconomic analysis of more than two of the four policy elements analyzed here. Indeed, many studies include only the carbon charge without revenue recycling, and none of the other elements. This study is also unusual in incorporating the insights of engineering-based analysis of the potential of specific technologies into a macroeconomic model. Technology assumptions are taken primarily from U.S. Department of Energy models and studies.

The four policies were integrated and the results estimated using the LIFT model, a sophisticated 92-sector macroeconomic model of the United States built and operated by the Inforum research and consulting group at the University of Maryland. The model was first calibrated to the economic and energy assumptions used in the 2001 Annual Energy Outlook of the U.S. Energy Information Administration. The macroeconomic and sectoral forecasts of the baseline and policy package were then prepared for the period 2001-20, focusing primarily on the effects on gross domestic product, employment, energy security, and greenhouse gas emissions.

The macroeconomic results discussed here are generally more positive than previous studies that rely on a single-instrument approach. This outcome is compatible with both theoretical analyses (see Sanstad, DeCanio, and Boyd 2001) and previous modeling studies conducted in Europe that combine technology promotion and market-based approaches with revenue recycling. Our results suggest that these policies have positive synergy. In particular, the combination of revenue recycling and “no-regrets” technology policy (i.e., policies to promote technologies that pay for themselves over time) accounts for the positive results on GDP and employment. These policies, together with essential border tax adjustments described in section 1.3, help preserve the competitiveness of energy-intensive industries. As a result, we find that these industries would suffer much smaller losses than many previous studies suggest. Finally, this is the first U.S. study to perform an integrated analysis of the cost of providing transitional assistance to workers and communities harmed by climate policy. We find that such policies, though by no means free, can be fully funded using only a small portion of carbon/energy tax revenues.

Relative to the base case, we estimate that the policy package would have the following results:

  • U.S. carbon emissions would decline by 27% in 2010 and by 50% in 2020. Other greenhouse gasses and pollutants would also decline.

  • GDP would increase by a modest 0.24% in 2010 and by 0.6% in 2020.
  • an additional 660,000 net jobs would be created in 2010, 1.4 million in 2020. This would increase employment in the service sector and reduce the rate of decline in employment in manufacturing.
  • unemployment would fall and real after-tax wages would rise.
  • oil imports in 2020 would fall from the baseline forecast by an amount slightly higher than total current U.S. purchases of oil from OPEC.
  • household energy bills would fall in every year, by a steadily rising amount.
  • the effect on income distribution would be slightly progressive.

However, these benefits do not come without cost. Employment in coal mining would suffer sev
erely, amounting by 2020 to more then half of all jobs in the coal mining sector. There would also be declines in employment in electric and gas utilities that are numerically larger though smaller in percentage terms. Jobs would also be lost in the production of other fossil fuels and in the rail transportation of coal. Only a portion of this shrinkage can be absorbed by normal turnover. Extremely small job losses are seen in a few other industries that are either energy-intensive or are suppliers to the energy industries.

The policy package provides every worker in an energy-producing or energy-intensive industry who loses his or her job with two years of full income replacement, including health and retirement benefits. It also provides up to four years of college education or other professional training and up to two additional years of income support for those who take more than two years of training or education. For some older workers, it provides the alternative of additional benefits as a bridge to retirement in lieu of education or training. For heavily affected communities, the package includes development assistance of $10,000 per job lost. We have attempted to estimate the number of layoffs that would result from the policy package and the cost of providing economic compensation and transition assistance to affected workers and communities. These benefits can be fully funded by the carbon/energy tax without substantially reducing the national economic benefit.

Overall, the results suggest four conclusions. First, the economic costs and benefits of a climate and energy policy depend critically on elements of the policy design. Specifically, costs are reduced and benefits enhanced by returning the revenue from carbon/energy charges through cuts in other taxes, and through more rapid introduction of new energy technologies; these twopolicies together can yield a net economic benefit. Second, the combination of technology promotion and well-designed policies to offset competitive burdens can reduce the harm to most energy-intensive industries to low or negative levels. Third, consumers and income distribution need not be harmed and can even benefit. Finally, substantial compensation can be provided to affected workers and industries without negating the general economic benefit.

Like all economic modeling efforts, this one has limitations based on simplifying assumptions. These include economic and technical assumptions, as well as implicit political assumptions, e.g., that worker and community assistance programs will be adopted together with the necessary tax and energy policies. To the extent possible, all assumptions are explicitly stated, and the reader is encouraged to examine how realistic they may be.

We make no claim that the policy package described here is in any sense “optimal.” Instead, the policies are intended to represent a feasible approach, similar to but more modest than plans adopted in many European nations. The policy set analyzed here lies in the middle ground between those who would do nothing to address the economic and environmental risks of fossil fuel consumption and those who would insist on immediate solutions, heedless of economic or human cost. Our results suggest that we do not need to accept a choice between environmental degradation and economic calamity. This study is not intended to provide a definitive solution to the nation’s energy, economic, and environmental needs, but rather to advance the debate toward an approach that can better harmonize environmental, economic, and social justice goals.

1.1 Crafting an energy policy: environmental, security, economic, and equity goals

Energy policy has many diverse and sometimes contradictory goals. In this section we briefly discuss five of the goals of energy policy that informed this study: protecting the environment, improving energy security, strengthening the economy, preserving competitiveness, and distributing burdens and benefits as fairly as possible.

1.1.1 Protecting the environment

The consumption of coal, petroleum, and natural gas has introduced a number of unintended side effects throughout the world. Proposals to expand oil drilling may endanger sensitive natural habitats such as the Arctic National Wildlife Refuge. Coal is the nation’s primary source of electricity, but is also the principal source of sulfur dioxide that causes acid rain, atmospheric mercury, and other pollutants. Combustion of fossil fuels is the principal source of air pollution and a number of other environmental problems. Many of these problems have been reduced through end-of-pipe controls and other measures over recent decades. Overall air and water quality have improved by some measures, and a number of serious environmental problems – e.g., atmospheric lead – have been virtually eliminated. However, other problems have proven more intractable, and continued economic growth, while good in itself, can lead to increased environmental impacts even when emissions (or other damages) per unit of output are declining.

One central example of such a problem is global warming. The vast majority of the world’s leading scientists now agree that human-induced emissions of greenhouse gases – most notably carbon dioxide, a necessary by-product of fossil fuel combustion – are trapping extra solar heat, with potentially catastrophic worldwide consequences. Ongoing events such as the recent string of years with record-breaking average temperatures and the thinning of glacial and polar ice make clear that this is a problem that will become increasingly urgent over time. A substantial reduction in fossil fuel consumption will be necessary if the U.S. is to significantly curtail greenhouse gas emissions and other environmental problems.

This report did not set any particular target or goal for emissions reduction. Instead, the goal is to assemble a feasible, cost-effective package that achieves substantial energy savings and related environmental benefits, and puts aggregate emissions of major pollutants, including carbon dioxide, on a downward path for every major sector of the economy. To achieve this, the policy set examined here focuses on improvements in energy efficiency and increased use of renewable energy resources. In addition, it encourages the substitution of fuels with lower emissions of greenhouse gasses and other pollutants, such as natural gas, for those with higher emissions, such as coal.

1.1.2 Improving energy security

It is impossible to run a modern society without substantial amounts of energy. However, in recent decades energy prices have been extremely volatile, threatening the economic health of U.S. industries and households alike. Reducing consumption of oil, for example, would help to avoid the periodic economic instability that arises from fluctuations in world oil prices, which have contributed to two major U.S. recessions. In a similar vein, more efficient use of electricity could help protect industry from the economic impacts of electricity price spikes such as those recently seen in California.

One goal of this project was to improve national energy security, and the policy package addresses this issue in two ways. First, we improve energy efficiency in all sectors in order to reduce the vulnerability of the economy by cutting the share of energy purchases in total industry costs and household budgets. Second, we expand the diversity of energy sources so that choice is increased and markets become more difficult to manipulate.

1.1.3 Strengthening the economy

A strong economy with increas
ing wages and low unemployment is vital to the well-being of workers and consumers. Previous studies have suggested that some approaches to reducing carbon emissions or increasing energy efficiency would reduce GDP, wages, and employment. This makes clear the need to focus attention on approaches to achieving energy efficiency gains and emission reductions that reduce economic harm or that provide a net benefit.

The goal of this study is to combine various elements of climate and energy policy that have been shown in other studies to reduce the economic cost or increase the economic benefit of achieving emissions reductions and energy efficiency improvements. The two most important of these are returning the revenue from a carbon/energy tax through cuts in other distorting taxes and investing in new energy technologies. Competitiveness policies described in the next section also play an important role.

1.1.4 Preserving competitiveness

In an increasingly competitive global economy, it is necessary to account for the trade implications of any policy that could impose significant costs on firms producing traded goods. Conversely, policies that improve productivity may strengthen the economy and improve our competitive position. Manufacturing industries that produce traded goods tend to have above-average wages and are a vital part of the U.S. economy.

One source of the economic losses predicted by some other studies is a substantial deterioration in the trade balance. This trade impact occurs in large part because in those models the high carbon taxes assessed on domestically produced energy-intensive products are not assessed on competing goods produced elsewhere. This reduces competitiveness of these industries both domestically and abroad. As a result, these models project that U.S. producers are burdened by a significant additional cost that foreign producers are not, resulting in lost market share.

This problem is less pronounced in the results discussed here because of the relatively low carbon tax applied. In addition, this policy package, unlike most previously modeled, includes a border adjustment of the carbon tax for fossil-fuel-producing and energy-intensive industries. The border adjustment rebates the taxes paid by producers as their products leave the U.S. for foreign markets and imposes an equivalent tax on foreign products as they enter the U.S. This policy would help to keep the playing field level – both domestically and abroad – so that U.S. producers are not subjected to undue erosion of market share by firms located in countries that do not employ a carbon charge.

1.1.5 Distributing burdens fairly

It seems clear that ultimately something will be done to protect U.S. energy security, improve energy efficiency, and reduce U.S. greenhouse gas emissions. But what will such changes cost, and who will pay the bill? Will these problems be solved in a way that protects the interests of U.S. workers and consumers, or will workers and consumers be required to bear the brunt of the costs? Proposals to compensate industry and shareholders, but not workers, with marketable pollution emission trading rights have already been put forward by industry, government, and some environmental groups. These rights could be sold profitably by corporations, making it easier for them to get out of the energy-producing or -consuming business, regardless of the impact on their workers and consumers. Most current proposals, however, provide no parallel protection to workers and communities. Other climate and energy policies that put U.S. worker or consumer interests at risk have also been urged.

Workers and consumers have been concerned that much of the burden of improving environmental quality would fall on them through increased prices on one hand or reduced employment on the other. In the past, workers and consumers have often found themselves shouldering a disproportionate share of the burden of environmental protection. More than once, this has put them in the unfortunate position of having to choose between preserving the environment and meeting their economic needs. The policy package modeled here is intended to avoid this conflict by achieving environmental goals while simultaneously ensuring that the costs and benefits of these efforts are shared as broadly as possible.

However, even the most cost-effective energy efficiency policies create both winners and losers in the near term. Some workers in fossil fuel industries, and perhaps other energy-intensive industries, could lose their jobs if policies to reduce the use of fossil energy are adopted. The severity of this problem depends in large part on how energy policies are designed. The injury to workers will be much smaller if the policies have been designed to help prevent such job losses where possible and, where it is not, ensure that these workers, their families, and their communities can land on their feet.

This report examines the fairness issue from two different perspectives. First, it looks at fairness in terms of income distribution. Some previous studies of other approaches to carbon reductions different from the one modeled here have reported negative impacts on low-income households and minorities. This highlights the need to consider distributional concerns when comparing alternative energy policies. One of the design constraints for this policy package was that it should not place a disproportionate share of the burden on low- and moderate-income households.

This report also examines equity from the perspective of workers in particular sectors. The first goal is to minimize the job impacts in energy and energy-intensive sectors that will result from energy efficiency improvements or emissions reductions. Thus, the package discussed here includes a range of policies to minimize job loss in these industries. For those workers who would lose their jobs, we estimate the cost of providing compensation sufficient to offset the average economic loss, with a goal of assuring that workers in a few sectors should not be made to shoulder the cost of achieving general social benefits.

Previous efforts to provide transitional assistance to workers have often been insufficient or ineffective. We have thoroughly reviewed the literature relating to past efforts to provide transitional assistance to individuals and communities harmed by economic change, in an effort to craft policies that would be workable and effective (Barrett 2001b).

1.2 Market-based and technology-based energy policies

1.2.1 Benefits of a combined approach

Various efforts have been made to determine the feasibility of reducing U.S. consumption of fossil fuels, often in the context of meeting the carbon reduction targets laid out in the Kyoto Protocol. Those that use macroeconomic models of the U.S. economy tend to rely on a single blunt instrument, like a carbon tax or other pricing mechanism, to achieve the desired reductions in fossil fuels or carbon emissions. Some of these studies predict serious negative consequences in terms of lost jobs and decreased GDP should the U.S. adopt policies to reduce the amount of fossil fuels it consumes. A few of these studies appear to exaggerate the cost of such reductions, as they lack obvious cost-reduction components such as gradual phase-in of the tax or recycling of tax or permit revenues to offset other taxes.

Studies of such policies can play a valuable role by demonstrating that certain approaches to climate and energy policy entail substantial economic burdens on society. For example, a report released by the Economic Policy Institute assessing the results
of a modeling effort prepared for the United Mine Workers of America and the Bituminous Coal Operators Association found that the greenhouse gas policies modeled would “have a strikingly consistent, negative impact on real wages” and “could have significant costs for the economy.” That effort modeled a tradable carbon emission permit system aimed at reducing emissions to levels 10% below their 1990 levels by 2010 (a larger reduction than found here); permits were issued to industry at no cost, i.e., there was no return of the revenue through cuts of other taxes to businesses or workers, and there were no technology-promoting policies. That study found that the equilibrium carbon charge would rise to $270 per ton in 2010, resulting in GDP 2.5% below baseline (Scott 1997).

However, macroeconomic studies that examine the use of market mechanisms (such as taxes or tradable permits) to promote energy and carbon efficiency are virtually unanimous in finding that, for any given level of emissions reductions, reduced net costs or net benefits are possible if the revenues are recycled.

In contrast to macroeconomic studies, studies using engineering-based models that examine the cost effectiveness of applying alternate energy technologies on a case-by-case basis generally find that a wide range of energy efficiency and renewable energy initiatives could be adopted at a relatively modest cost or a net saving. Sometimes this approach represents a study of what is technically feasible rather than a forecast in the strict sense. When engineering models are used to do forecasts, they typically rely on multiple policy instruments rather than a single-instrument approach.

When the technical improvements in energy efficiency forecast by such models are cost-effective, they result in increased economic productivity and associated economic benefits. However, most engineering models are not designed to assess the economic impact of adopting policies and technologies when those impacts go beyond the level of the firms and industries adopting them, such as lost production in energy-producing industries. They therefore generally do not fully account for macroeconomic impacts and inter-market interactions. While they often find economic benefits from modest improvements in efficiency, there are some costs for which they cannot account, and they may thus overstate the benefits of the policies they model.

In this study, the aim is to wed the best elements of these different approaches into a single effort to assess the impact of a comprehensive set of policies designed to achieve substantial environmental gains as effectively and fairly as possible. There are several ways of viewing this result. First, as discussed in the next section, well-designed technology policies shift the production-possibilities frontier outward, thus making it possible to achieve more of both economic production and environmental quality. Second, technology policy gives businesses and consumers more alternatives in responding to price incentives, thereby reducing the cost of achieving any particular reduction. Finally, one can simply conclude that the combined benefit of the labor tax cut and the technology improvements outweighs the negative economic impact of the carbon/energy charge.

Specifically, in contrast to studies that rely exclusively on carbon charges to achieve reductions in emissions, we find that comparable reductions can be achieved when a much more modest carbon charge ($50 per ton as opposed to $100-$300 per ton) is applied in conjunction with policies designed to promote the adoption of energy-efficient technologies. Further, while other studies often predict large economic costs to achieving these reductions (GDP losses in the neighborhood of 0.5-1.5%, with some studies finding losses as high as 3%), the results here find modest macroeconomic gains resulting from this policy set, gains that in the aggregate substantially outweigh the losses forecast for a few sectors.

1.2.2 How technology policy works

The fact that this study finds that there are economic gains to be had by increased adoption of existing technologies might seem to imply that businesses and consumers are ignoring or unaware of potentially profitable investments. But this is not the case. Rather, the primary source of the economic benefits we find from technology policy is an acceleration of the currently occurring rate of energy efficiency and productivity improvement through additional research and coordination of private efforts.

The technology package achieves this acceleration in four ways. First, by funding research and development, the program can increase the supply of energy efficiency technology available to everyone. Second, by providing reliable information on energy technologies, the program can make it cheaper for firms and individuals to identify cost-effective investments and increase the rate of penetration of new technologies into the market. Third, the program can coordinate private actions in a way that helps to reap the benefits of collective learning and group efforts, especially in new industries. Finally, the program includes measures to overcome agency problems, where the person paying the energy bill is not the same as the person making the investment decision. Let us consider these four approaches in turn.

First, scientific and technological knowledge is a public good. It is well known among economists that competitive markets tend to generate a sub-optimal amount of technological advancement, because the returns to those advancements are shared broadly, not just by those who invested in their development. This is one basic rationale behind government involvement in research and development and a reason why education is one of the most important roles of government in all advanced nations. Our results simply reflect the fact that if the government bears a greater amount of responsibility for investing in research and disseminating technical information, firms and households will be able to make better investments and acquire new technologies at lower cost, thereby increasing their productivity.

Examples of the benefits of public investment in research can be seen in semi-conductors, nuclear power, and the Internet. In each of these cases, profitable opportunities for private investment became available as a result of extensive public investment in research and development.

Second, there is a substantial literature spanning 40 years that shows that all firms are not all equally efficient. Instead, firms within an industry vary substantially in the efficiency with which they deploy labor, capital, and other inputs. This reflects the fact that the value of information about technology and management approaches is uncertain, and acquiring information is costly. If the cost of acquiring accurate information could be reduced, firms would move closer to the technological frontier, and the productivity of those firms and of the economy as a whole could be increased. Examples of public energy programs that reduce the cost of private decision making include the program of energy efficiency labeling requirements for appliances such as water heaters, refrigerators, and air conditioners.

Third, it is well known that new technologies often undergo rapid price reductions as the volume of production increases. This has been most visible in recent years for computers, but extensive empirical studies have shown it to be true for most complex mass-produced equipment. Emerging clean and renewable energy technologies such as fuel cells, wind turbines, photovoltaic cells, and cellulosic ethanol are all undergoing rapid cost declines as research, development, and prod
uction volumes increase. For instance, the cost of wind-generated electricity has fallen by more than a factor of five since the mid-1980s (NREL 2000), and costs are expected to continue to decline rapidly in the coming decade (Chapman et al. 1998). In 2000, more new wind capacity than new nuclear capacity was installed worldwide, and Germany replaced 1% of its entire generating capacity with new wind turbines [Schliegelmilch 2001). The cost of combined heat and power systems, which use waste heat from industrial applications or building heating systems to produce electricity, is also declining rapidly as production experience grows (Elliott and Spurr 1999). Through programs ranging from fundamental research and demonstration projects to government purchases and coordinated programs of purchases by utilities and private industry, the policy package we model helps to accelerate the rate and reduce the cost of transition toward cleaner energy systems.

Finally, in many cases the barrier to the adoption of energy-efficient technologies is the fact that the people who make decisions regarding energy consumption are not the ones who pay the energy bills. The simplest example of this is a building tenant who does not pay a separate electricity bill. Since the landlord pays the utility bill and collects the same amount of rent regardless of how much energy the tenant uses, the tenant has no incentive to economize on energy by using more efficient equipment like compact fluorescent light bulbs or even to turn the lights off at night. Government programs like “Energy Star” and the “Green Buildings Program” help overcome these problems by promoting the use of more efficient equipment, including appliances and heating/cooling units. Our results merely reflect the fact that increased investment in programs like these will result in increased use of energy-efficient equipment. These factors, along with the price stimulus provided by the carbon tax, provide incentives for adopting cost-effective energy-efficient technologies, as our results show.

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