Kemal Dervis writes: The sharp drop in the price of crude oil since late June has been grabbing headlines worldwide – and producing a lot of contradictory explanations. Declining global growth expectations, the expansion of America’s oil and gas production and a tacit agreement between Saudi Arabia and the United States aimed at, among other things, weakening political rivals like Russia and Iran probably all contribute.
International Monetary Fund Managing Director Christine Lagarde has noted that lower oil prices may boost overall global growth, with the oil-importing advanced economies gaining the most, the impact on efforts to combat climate change could be devastating.
Indeed, a sustained decline in oil prices would not only make renewable energy sources less competitive, it would impede their future competitiveness by discouraging research and investment. It would also reduce the incentive for consumers, companies, and governments to pursue more energy-efficient practices.
Even if we remained on our current trajectory, keeping temperatures from rising more than 2º Celsius above pre-industrial levels would be next to impossible to achieve.
World leaders continue to depend on non-binding commitments, leaving the world on a dangerous climate trajectory.
A sharp decline in oil prices does, however, provide a rare political opportunity to introduce more carbon pricing. With declining oil prices now exerting downward pressure on oil substitutes, a carbon tax could be introduced without raising the price of energy for consumers.
The structure of a carbon-pricing scheme remains up for discussion. One option would be to introduce flexible pricing, tied to the price of oil. For example, for every $5 decline in the price per barrel, the carbon tax could be raised by a specified amount; for every $5 increase, the tax could be lowered by, say, two-thirds of that amount.
The carbon price would thus increase over time – the optimal outcome, according to growth models that account for climate constraints. At the same time, it would buffer consumers from oil-price volatility, thereby stabilizing their energy spending. Such an approach would be more politically attractive than a fixed carbon tax, especially if it is introduced at a time of sharply declining oil prices.
Given the multitude of existing taxes, fees, and subsidies on energy products in various countries, the goal of aligning the effective cost of carbon with its most economically efficient level would take time to achieve.
Today’s environment of falling oil prices enables the world to take that step. It should be modest, so that it is politically feasible; flexible, so that it helps stabilize user prices; and it should increase over time, to place the global economy on a more sustainable path. Most important, it should be implemented quickly.
