Climate Change Economics and Game Theory and International Protocols

Course Announcements and Wellbeing Support

• Wellbeing Check-in: Students are encouraged to use available resources such as one-to-one counselling, group wellbeing workshops, the Neurodivergent Hub, Student Access Plans, and the 24/7 crisis support line ($1300\,851\,998$).

• Study Skills: Support includes drop-in assignment feedback at St Lucia (Workshop A, 06-223), Academic Skills Adviser workshops, and Academic English language support.

• Self-paced Resources: Students can access the "Sharper Minds" online program and UQ Mindfulness Walks at St Lucia and Gatton.

• RiPPLE: Round 3, the final round, closes on Monday, 25 May, at $2:00\text{pm}$.

• Critique a Celebrity Video: Due Friday, 29 May, at $2:00\text{pm}$. Submissions require a link on Blackboard. If applicable, students must submit a Change in Quote/Topic, Reference, AI Acknowledgement, and Consent Form via a separate link.

• Final Exam Details:

  • Past exam papers ($2024$ Semester 1 to $2025$ Semester 2) are available in the UQ Library.

  • Note: $2024$ topics differed slightly and the course had no exam in $2022$ or $2023$.

  • Question types: Similar to Inspera tutorial exercises.

  • Format: Open book exam; students may bring any written/printed materials and mathematical formulae.

The Economic Challenge of Climate Change Policy

• The Behavioral Aspect: Climate change policy is difficult because economics revolves around behaviors and strategic interactions.

• GHG Abatement as a Positive Externality: Reducing Greenhouse Gas (GHG) emissions is associated with positive externalities.

  • Private Costs: Countries incur costs to reduce emissions, such as losing access to cheap legacy fossil fuel energy and the high cost of new green infrastructure.

  • Australia Case Study: Research from the Center for International Economics ($2019$) suggested that a $40\%$ to $50\%$ abatement is associated with a $5\%$ to $6\%$ reduction in Gross National Product (GNP) relative to a "Business as Usual" (BAU) scenario.

  • Shared Benefits: While costs are private, the benefits of avoided climate change are shared globally, leading to coordination issues.

• International Coordination Requirements:

  • Every country contributes to GHG emissions, though at different scales.

  • Individual action has limited impact; effective action requires coordination, particularly among larger economies.

• Top CO2 Emitting Countries ($2020$ Data):

  • China: $31\%$

  • United States: $13\%$

  • India: $7\%$

  • Russia: $5\%$

  • Japan: $3\%$

  • Germany, Indonesia, Iran, Korea, Canada, Saudi Arabia: Over $2\%$

  • Australia, Brazil, South Africa, Turkey, Mexico, UK, Vietnam, Italy, Poland, France: Rounding to $1\%$

  • Rest of the World (Total): $20\%$

Background of International Climate Protocols

• The Kyoto Protocol ($1997$/$2005$):

  • The first binding international agreement to curb GHG emissions.

  • Required $38$ EU countries and other industrialized nations (Annex 1) to reduce emissions by an average of $5.2\%$ relative to $1990$ levels between $2008$ and $2012$.

  • Structured in "Commitment Rounds": 1st Round ($2008$-$2012$), 2nd Round ($2013$-$2020$).

  • Participation Issues:

    • Developing countries (China, India) were exempt from the 1st round as they were not considered responsible for historical climate change.

    • The US pulled out in $2001$, and Canada pulled out in $2011$.

    • By $2012$, the US, Russia, Japan, Canada, and New Zealand indicated they would not participate in the 2nd round.

  • Effectiveness: Global emissions showed no sign of slowing down. While considered a diplomatic first step, the protocol is largely viewed as a failure in achieving emission reductions.

Game Theory and Strategic Interaction

• Definition: Game theory is a tool for analyzing strategic interactions where one player's action affects both their own payoff and others' payoffs.

• Elements of a Game:

  1. Players: The individuals or entities making choices.

  2. Actions: The possible choices each player can make.

  3. Payoffs: The outcomes or rewards for every combination of actions.

• Assumptions: Predictions are based on the assumption that players choose their best option given the choices of others.

• $2 \times 2$ Games: Simultaneous-move games with $2$ players and $2$ actions per player, described via a payoff matrix.

The GHG Abatement Game: Prisoner's Dilemma

• Scenario Setup: Two countries, A and B, choose to either "Reduce" emissions or maintain the "Status Quo."

• Initial Payoffs:

  • Both Reduce: $(3, 3)$

  • Both Status Quo: $(0, 0)$

  • Row Player (A) Status Quo, Column Player (B) Reduce: $(4, -1)$

  • Row Player (A) Reduce, Column Player (B) Status Quo: $(-1, 4)$

• Best Response: The action that yields the highest payoff given a specific action by the opponent.

  • If Country B reduces, Country A's best response is Status Quo ($4 > 3$).

  • If Country B chooses Status Quo, Country A's best response is Status Quo ($0 > -1$).

• Dominant Strategy: An action that is always the best response regardless of the opponent's choice. In this game, "Status Quo" is the dominant strategy for both players.

• Nash Equilibrium: An outcome where no player wants to deviate given what others are doing. The predicted outcome is (Status Quo, Status Quo) with payoffs of $(0, 0)$.

• The Dilemma: Individual rationality leads to $(0, 0)$, which is inefficient. Joint rationality would lead to $(3, 3)$. The failure arises from the incentive to free-ride (enjoy benefits without paying costs).

Incentives and Failure of Kyoto

• The Problem of Punishment: Kyoto failed because it lacked enforcement for "cheating."

• Barrett ($2008$) Critique:

  • The penalty for non-compliance was a $30\%$ increase in reduction targets for the next period.

  • This was ineffective because the new target (cap) was subject to the approval of the penalized country, making it a "phantom" penalty.

  • Punishments were "self-inflicted."

  • Comparison to WTO: The WTO is more effective because injured parties can impose rebalancing tariffs (external punishment), which forces compliance.

The Paris Agreement ($2016$)

• Overview: Successor to the Kyoto Protocol with $194$ participating countries (covering $98\%$ of emissions).

• Goals: Keep global average temperature increase well below $2^{\circ}\text{C}$, preferably below $1.5^{\circ}\text{C}$.

• Pledge and Review Mechanism:

  1. Nationally Determined Contributions (NDC): Self-defined, voluntary GHG mitigation commitments registered with the United Nations.

  2. Review Process: Pledges and progress are reviewed via a Global Stock Take (GST) every $5$ years. The first was in $2023$.

• Enforcement via "Name and Shame":

  • Countries care about international reputation and the ability to honor other future commitments.

  • NGOs like Climate Action Tracker and the Climate Change Performance Index provide independent reviews.

Game Theory Modification: Name and Shame

• Modified Payoffs:

  • If Country A "Cheats" (Status Quo) while Country B "Reduces", the payoff for A drops from $4$ to $2$ due to reputational damage.

  • Payoff Matrix: Reduce $(3, 3)$, Cheat $(2, -1)$, both Cheat $(0, 0)$, Reduce $( -1, 2)$.

• Results:

  • No more dominant strategies.

  • Multiple Nash Equilibria: Both (Reduce, Reduce) and (Cheat, Cheat) are now self-enforcing.

  • Coordination Problem: Countries can reach the "good" outcome of (Reduce, Reduce) if they trust each other.

• Ratcheting: Every $5$ years, NDCs are updated to be more ambitious. This ongoing negotiation helps alleviate the coordination problem.

Contagion of Political Pressure

• Internal Pressure: If internal political pressure punishes a government for cheating, the payoff for cheating decreases regardless of what other countries do.

• Example Case:

  • Country A (Leader) faces internal pressure: Cheat payoff becomes $-2$ if B cheats, and $0$ if B reduces.

  • The action "Reduce" becomes Country A's dominant strategy.

  • Iterative Elimination of Dominated Strategies: Knowing Country A will "Reduce," Country B's best response shifts to "Reduce."

  • Real World Observation: When the US withdrew from Kyoto, others followed. When the US withdrew from the Paris Agreement ($2017$/$2025$), many other countries stayed, indicating a more stable payoff structure.

Paris Agreement Progress Report

• Bad News ($2023$ GST): Even if current NDCs are fully implemented, temperature rise will exceed $2^{\circ}\text{C}$.

  • Implementation gap: $20\text{--}25\text{ Gigatonnes (Gt) } CO_2\text{ Eq.}$ is needed to hit the $1.5^{\circ}\text{C}$ target.

  • $2019$ Emissions: $\approx 60\text{ Gt } CO_2\text{ Eq.}$.

  • Required: $\approx 40\%$ cut in emissions by $2030$.

• Good News:

  • Predicted warming has dropped from a range of $3.7\text{--}4.8^{\circ}\text{C}$ to $2.1\text{--}2.9^{\circ}\text{C}$.

  • Emissions in developed countries have peaked.

• The Power of Small Efforts: Individual actions (like those of Australia, which constitutes $1\%$ of global emissions) can induce contagion effects, creating pressure for larger buckets of water (major emitters) to act.