By Luis J. Perez
Dr. John M. Reilly is a Senior Lecturer at the Sloan School of Management, and Co-Director, emeritus of the MIT Joint Program on the Science and Policy of Global Change. As an energy, environmental and agricultural economist, he has focused on understanding the contribution of human activities to global environmental change and the effects of environmental change on the economy and society, and solutions to the threats of global environmental change. A key element of his work is the integration of models of the global economy (representing human activity) with models of the ocean, atmosphere and terrestrial vegetation. Prior to joining MIT in 1998, Dr. Reilly spent 15 years with the U.S. Department of Agriculture’s Economic Research Service, and previously for the Pacific Northwest National Laboratory and the Institute for Energy Analysis, Oak Ridge Associated Universities. He holds PhD (1983) and MS (1980) degrees in economics from the University of Pennsylvania, and a BS (1978) degree from the University of Wisconsin.
Luis Perez: Thank you for taking the time to speak to us today. We want to focus our discussion on an article you co-wrote with Henry Jacoby and Y-H Henry Chen published in Humanities and Social Sciences Communications titled The Covid-19 Effect on the Paris Agreement. We are interested in your conclusion that the main effect of the COVID-19 pandemic on climate change will not be the short-term reduction in greenhouse emissions, but the influence on national commitments to action. Can you expand on that and explain your methodology in reaching that conclusion?
John Reilly: As you know, during the early months of the pandemic with the massive shutdown of economies worldwide, we saw a big drop in energy use, especially with the shutdown of the airline industry, and people telecommuting and conducting meetings virtually. A lot of people were asking, would this experience massively transform how we do things over the long term, and therefore reduce energy use and greenhouse gas emissions?
In our study we applied a model of the world economy and energy use that we have developed over decades. A big direct effect of the pandemic was slower economic growth, suggesting that the economy could remain below its expected pre-pandemic trajectory for some time. If we take a lesson from the financial crisis, it took a decade to fully recover. We set about estimating what the productivity and employment shocks might be over the next decade, extrapolating some short-term estimates made by the U.S. Congressional Budget Office. That extrapolation showed some lingering effects to 2030. We factored that into our model, and we did get emissions a little bit lower as a result, but not sufficiently lower to even begin to stabilize climate. Emissions were just a few percent lower in 2030, not the fifty percent needed to get us moving on the path required to remain well below 2 degrees Celsius of warming. We then speculated on further structural changes in the economy that might persist -- potentially with larger and more permanent effects, positive or negative. For the most part we did not quantify these effects with any specificity. We identified sectors and activities that might be affected and looked at the share of global emissions for which the activity was responsible.
Many people, of course, are focused on commuting, but we pointed out that only six percent of global emissions are due to personal vehicle use. So even a very large, permanent reduction in personal vehicle use, say twenty percent, wouldn't have a huge effect on CO2 emissions, reducing them by just a little over one percent. In fact, once we're through the pandemic, much of that vehicle use will probably come back. We also considered commercial freight and public transportation. If people are less willing to use public transportation because they're afraid of disease transmission, that may actually spur more personal vehicle use for commuting to work. And if we're having things delivered to our homes item by item rather than in-person shopping, maybe retailing goes down a bit because there's not much commercial space, but then we may have more emissions from delivery trucks. It’s hard to even say that the net effect would be a reduction in emissions from these sources. So all together, such structural changes may lead to a small reduction in emissions -- on the outside, two or three percent, and they may not be permanent.
Perez: In your analysis, you relied on the numbers published in 2020 by the U.S. Congressional Budget Office. Do the updated numbers published in 2021 still support your conclusion?
Reilly: Yes. I think we're now seeing a little bit of a double-dip economic slowdown, but I don't think it's dramatically different than what we had estimated last fall. There is, of course, some uncertainty in these projections because we are in uncharted waters. Assuming we get effectively vaccinated, the economy should be able to reopen and begin functioning normally. What really matters for the climate are effects that might last a decade or more. Greenhouse gas emissions are long-lived, with each year’s contribution quite small in terms of the overall effect, so a reduction of emissions for a few years has a very small effect on the trajectory of the climate. So even with a double-dip slowdown, it would not dramatically change our projection. In fact, the stimulus package passed this winter in the U.S. may produce a faster rebound. But there are pluses and minuses to that as well: one of the structural effects we considered was the need to increase taxes over the longer term to recover from the large deficit spending across the globe. Increases in taxes in the future we estimated might cut the economy somewhat short of one percent over a decade, perhaps reducing emissions by six or seven tenths of a percent. So for all of these structural changes that we did not consider in our main quantitative analysis, we could only come up with a few percent per year reduction that might drag on for a decade, and maybe a lingering effect of less than one percent for another five to 10 years.
On the other hand, in the middle of the pandemic, Europe announced it was going to net zero emissions by 2050 and China by 2060. It's hard to know why they decided on these more aggressive targets now, and I’m not necessarily attributing that to the pandemic, but despite the pandemic or maybe because of it, a couple of regions that account for thirty-five percent of global emissions decided to go to net zero, and that's a big effect -- bigger than any direct effect of the pandemic. The question is: if many economies are set back by the pandemic, will they be hesitant to make bigger climate commitments or, even though the pandemic wasn't caused by climate change, will they see it as an example of the disruption climate change might cause and thus see the need to act more aggressively? I think that it could go either way, but European and Chinese commitments suggest that in the midst of the pandemic, these countries were not hesitant to make new large commitments to the reduction of greenhouse gas emissions.
Perez: You conclude in your analysis that the U.S. economy will be back to full employment in 2035, but as you pointed out, you recognize that ultimately the full economic impact of the pandemic will depend on many factors. Do you see a significant change on that calculation that we will only see a return to full employment in 2035?
Reilly: So, we're still observing what's happened. Even though unemployment has fallen, we also have fewer people in the labor force. Many have simply dropped out completely and may remain so for quite a while. It will be hard for them to move back in as the economy will have changed; some jobs may never come back, as Federal Reserve Chairman Powell has suggested. To get back in to the job market, people may need retraining, and in new jobs their productivity will not be as high as it was pre-pandemic. While our decade-long estimate is just an extrapolation of short-term employment effects, the reasons for such a lasting impact would result from these deeper effects on labor-force participation and productivity, even as formal measures of unemployment return to normal “full employment” levels. Again, that is what we saw coming out of the 2009 financial recession: unemployment fell fairly quickly, but a lot of people had left the labor force and really didn't come back in for a decade, and wage growth stagnated.
Perez: You mentioned earlier that the decisions by Europe and China to voluntarily agree to reduce emissions will have a big effect, and you conclude in your article that the overall impact on emissions will depend on the Nationally Determined Contributions (NDC’s) the various countries pledge. Do you still agree that the volunteer factor is going to be determinative?
Reilly: Yes. One of the things, at least in Europe, was that in their financial stimulus package they tried to direct some of that spending on advancing adoption of lower-carbon technology. They were using the fiscal stimulus to also move toward a lower-carbon economy. The big change that's happened since we were working on this research was the U.S. presidential election. It seems President Biden along with John Kerry, as the climate envoy, and Gina McCarthy, in charge of domestic climate policy, are talking about plans to reach net zero by 2050. If the U.S. joins in with Europe and China, that may help put a lot more pressure on other countries to make aggressive commitments as well.
With the big-three emitters on board to net zero, that would really help get the ball rolling in the right direction. That may have nothing to do with the pandemic, but that's probably the biggest change in the situation since we were writing the article last fall. We tend to get people who are very focused on climate and CO2 to say, look, technology is moving so fast, the problem is going to solve itself. And then, the pandemic is going to change driving and flying habits forever, further driving emissions down. I guess they're trying to be optimistic about the situation. But having watched climate policy for 30 years, it isn’t prudent to get all jazzed up about things that really do not add up to much of a solution; the danger is that we don't focus on the policies we really need. It is a cautionary tale. We still need to focus on the Paris Agreement and its nationally determined contributions, tightening those up over time. This problem isn't going to solve itself.
Perez: There are recent reports that the Biden administration is considering a sweeping infrastructure package and also looking for ways to aggressively cut emissions of greenhouse gases. What policy actions would you recommend to be taken by the Biden administration and Congress at this time?
Reilly: Well, I think the Biden administration and Congress is really focused on incentive programs -- for example, cash incentives for residential heat pumps or better insulation or more efficiency. I think they're probably going to go back to some of the actions that the Obama administration took on vehicles and power plants to try to move that agenda forward. I believe the most effective strategy is a broad carbon cap policy that could back those things up. If we actually set a carbon cap that achieved a fifty percent reduction in emissions by 2030, that would ensure that we could reach that target. The trouble with incentive programs is that often you put a big incentive out there, but a lot of people don't pay attention to it. They are busy focusing on other things. And, particularly if the incentives are through the tax system, the people who take advantage of them tend to be wealthy. It's hard to get those incentives out to poor households as they can be confusing. They have to find trustworthy contractors to install insulation and lower emitting HVAC systems, and even with a healthy subsidy they may not have funds to cover the rest of the investment. The uptake on such measures tends to be very slow. Calculations might show it would be beneficial for fifty percent of households to take advantage of incentives, but only a few percent of people do so. So often these policies come up short, when instead of fifty percent adoption, it is only a few percent.
A dual approach of a cap-and-trade system and some of those incentives may work better. When people see higher fuel prices, that may spur them to say, ‘what can I do about this? Oh, and here's is government program that will help me avoid those high costs.’ Also, we find that if you auction off the allowances, you could distribute the revenue by sending a check to every household in the country for a couple of thousand dollars every year. That turns out to be a very progressive approach to greenhouse gas mitigation, more than paying for any extra cost for lower-income households, leading to net benefits for the average low-income household in the bottom one or two quintiles of the income distribution. My sense is that Democrats are hesitant to go ahead with a cap-and-trade system -- because Republicans will point to a carbon price, and say, ‘look, the Democrats increased your energy costs.’ But if you could get this cap-and-trade system and a family of four is getting a check for twenty-five hundred dollars every year, I think that would be a winner politically, particularly among lower-income households.
Perez: In your opinion, is there political support for such cap-and-trade system right now?
Reilly: I don't really see the political support for a cap-and-trade policy right now. However, I should say, I am an economist and not an expert on where policy is going or may go, so my opinion on likely policy direction is probably not worth much. But, at this point, Democrats want to go ahead with this big infrastructure program, maybe directing some of the funding to a greener economy. Already, we have heard from the Biden administration, that they realize they can't pay for that all with deficit spending, as the deficit has gotten quite large. They are looking at how they roll back some of those corporate income tax cuts and maybe tax higher income individuals to pay for some of that infrastructure. So my guess is that infrastructure spending, incentives, and regulation will be the main focus for greenhouse gas mitigation, and maybe if that does not get them on the path they want to be on, then something like a cap-and-trade system might be considered.
Perez: You mention the need to focus on the Paris Agreement and the NDC’s and tightening those over time. What is the most important single action that could be taken at this time in that regard?
Reilly: The U.S. coming in with a comparable 2030 and long-term commitment to that which Europe has made is probably the most important step to be taken. Then, working hard to get other countries on board as well.
Perez: Thank you very much for your time.
About the Author:
Luis J. Perez is a 2021 Harvard Advanced Leadership Initiative Fellow. Luis was a partner and is now Senior Counsel at a global law firm, where his practice focuses on M&A and corporate governance for clients in the U.S. and Latin America. He is also known for his work in the Energy sector, including Renewable Energy.
This interview has been edited for length and clarity.