The Trump administration submitted formal notification of the United States’ withdrawal from the Paris Agreement in November 2019. This move has drawn criticism from opponents who believe it will be a setback for international climate cooperation progress and harm America’s leadership on the world stage. As the 2015 Paris Agreement is a voluntary pact, the United States can abandon it without incurring any contractual consequences or penalties.
Nobel Prize winner William Nordhaus has sharply pointed out the flaws in current models of international climate efforts and proposed an alternative mechanism he calls the “Climate Club.” Free-riding, Nordhaus argues, is “a major hurdle to addressing global externalities, and it lies at the heart of the failure to deal with climate change.” Because a country’s emission reductions spill over to other regions, countries do not have incentives to cut their emissions sharply, but reap the benefits of other countries’ efforts. Nordhaus believes that voluntary international climate agreements such as the 1997 Kyoto Protocol and the Paris Agreement will accomplish little due to their poorly designed incentive structure.
The Climate Club proposal by Nordhaus has two key components: First, club members would agree on an international target carbon price; second, there would be a penalty for nonmembers in the form of uniform import tariffs.
While it’s a well-intended proposal to have all the club members reach an agreement on their target carbon price, it might be a very complicated process in practice. Modeling on the social cost of carbon (SCC) provides useful information on a potential range of carbon emissions costs. But a key assumption that needs to go into an SCC model–how highly we value future damages in the present—is intrinsically subjective. It’s complicated enough to reach a consensus on a carbon price domestically. To coordinate all climate club members to negotiate and agree on a carbon price would be even more challenging.
Unlike the Paris Agreement, a climate club would impose penalties on nonparticipants or members that fail to meet their obligations. Rather than levying a duty on imported goods based on their carbon content, as in a border adjustment assessed at countries with a carbon price, Nordhaus argues that the simplest and most effective approach would be a uniform tariff on all imports from nonmember countries into members of the club. According to his modeling, a regime with a carbon price of $25 per ton and a punitive tariff of 3 percent would provide a strong incentive for nonmembers to join the club.
However, economists generally agree that stand-alone import tariffs would reduce imports, result in higher prices, and ultimately reduce economic efficiency. When import tariffs get factored into each production stage in the supply chain, eventually domestic consumers end up paying for the increased costs. The import tariffs imposed by member countries would likely lead to unintended consequences – hurting consumers in the member countries. While club members’ imposing a uniform tariff on all imports from nonmembers could hurt nonmembers’ exporters, it could also cause collateral damage to the club members’ domestic economies. Moreover, both clean and dirty imported goods are subject to the same tariff. As a result, low-carbon imports are not favored, and carbon-intensive imports are not discouraged, which counters the purpose of a carbon tax.
Some scholars believe that “countries sometimes seem prepared to accept losses from imposing trade restrictions–particularly when they believe sanctions might serve a sufficiently important purpose.” However, in the case of a climate club, it would require a country to reach a consensus that pressuring nonmembers to join is a top priority that justifies forgoing some trade benefits.
Additionally, leveraging import tariffs as sanctions on nonmembers might risk provoking trade wars among members and nonmembers when the latter respond by imposing retaliatory tariffs on members. The Congressional Budget Office estimated that tariff tit-for-tat since January 2018 reduced the level of real U.S. GDP by approximately 0.3 percent by 2020. As the CBO report states: “The tariffs raise domestic prices, thereby reducing the purchasing power of domestic consumers and increasing the cost of business investment.”
Another challenge with a climate club is how to address the World Trade Organization’s rules. Imposing tariffs on imported goods from nonmember countries could likely run afoul of the WTO’s most-favored-nation (MFN) principle, as it’s providing preferential treatment for club members. Experts have proposed several options to overcome this barrier, including leveraging existing WTO rules related to natural-resource conservation to justify exceptions to the MFN principle, or modifying current WTO provisions to permit discriminatory trade treatment outside of a climate club. While these proposed options might be feasible, adjusting the WTO rules is a very complex procedure. Depending on the case, WTO members are required to negotiate and vote on specific waivers or amendments. For example, if the amendment relates to MFN provisions in the General Agreement on Tariffs and Trade 1994, it would require a unanimous decision by all members.
Nordhaus has raised very important issues with the current international climate mitigation models and identified their root causes. But a climate club might not be a silver bullet to global climate-mitigation efforts. While the proposal is ambitious and backed by detailed modeling, it’s not without its own challenges. Nordhaus admitted that “the international community is a long way from adopting a Climate Club or a similar arrangement to slow the ominous march of climate change.” No country can solve climate change on its own. An effective and accountable international collaboration mechanism is overdue. Inspired by Nordhaus’ proposal and his important work, the world needs to reflect on what’s been working and what needs to be done differently, moving forward.