Climate Policy, Prudence, and the Role of Technological Innovation

We study the importance for climate policy of uncertainty concerning the gravity of climate change and thus the benefits of abatement. In particular, this uncertainty can have different effects on the benefits of early abatement and R&D. We explore these differences, which depend in large part on the curvature of the marginal abatement cost function—prudence, in other words. With convex marginal costs, increased uncertainty leads to more early abatement, while concave costs allow for less early action in favor of research to reduce future costs. With several competing technologies and the possibility for R&D to change the shape of the abatement cost curves, the impact of uncertainty on the optimal R&D portfolio is more complex. We illustrate our results with the case of two competing technologies, a conventional one with linear costs and a backstop with fixed (but high) costs. The existence of this backstop renders a concave overall abatement curve, but if the backstop capacity is limited within any given timeframe, then portions of the abatement curve may be convex. Finally, we discuss these results in the context of existing climate models and scientific evidence.