Welcome to EDHEC-RISK Institute. Today we are going to talk about how the economic and financial world can get together and try and have a positive impact on global warming. Remember that, we've argued last time, that global warming is a problem of economic origin. What we meant by that, but of course, if you look at the composition of the factors explaining the increase of carbon emission over time, we find that two main factors were increase in population size and increase in income per capita, in other words economic growth. Now, given that there's nothing that we can easily do about increases in the size of the population, there is a clear focus that should be made on economic growth. And trying to think about how economic growth can be accommodated to deal with the global warming problem. Now, one simple way to think about global warming from a purely economic perspective, is to think in terms of a concept that has been invented by economies that they call negative externality. Here is what negative externality means when it's applied to global warming. And here I'm going to quote word from William Nordhaus who is this global thought leader in climate economics, Nobel Prize winning economist whose done a lot of work on global warming. Here is what he says, the problem of global warming is that those who produce the emissions do not pay for that privilege, and those were harmed are not compensated. In other words, the carbon emission takes place outside the economics of the trades. And when buyers of goods and services pay a price to get access to these good or service, they do not pay for the carbon impact of global warming impact involved in the production of these goods and services. This is what we call in economics negative externality. So global warming is external to economic transactions. And economists have a very simple way to deal with negative externalities like global warming. Well, what they would argue is we need to internalize these negative externality. How do you internalize this negative externality? Well, there's a very simple approach to internalizing negative externality which consists in putting a price to carbon, making carbon emission costly, pricey. That is going to be a very effective way of internalizing within economic transactions, the cost of carbon emission. You can use market based regulations to achieve this objective. And you have an increasing focus on carbon taxes, on production of carbon taxes, which is a very politically sensitive subject. But which will have a clear impact on the consumption of carbon related energy resources. And there's also an attempt at developing carbon cap and trade markets, in other words, developing markets where companies are allocated a permit to emit carbon dioxide in the atmosphere. And that set is trick limit on how much they can emit and if they emit more then they will have to pay for that extra allowances that they need to face these additional needs. These are methods that economists would propose, would suggest that collectively we use at the regulatory level to put a price on carbon. Now, interestingly, we can also internalize the negative externality by our investment decisions. In other words, we don't need political decisions to put in place a regulatory framework that will help fight climate change. Well, hopefully this regulatory framework will eventually be implemented and put in place in an increasing number of countries. But we don't have to wait, we don't need to wait for that to happen. We have to understand that investment decisions that we're making will also have a critical impact. So in other words, market initiatives can be very powerful, are putting a price on carbon. So this is going to be one of the main themes of these costs, which is to explain how investment decision can have an impact on how we can, if you will, let's put it this way. Increase the cost of capital for carbon intensive economic activities and decrease the cost of capital for more climate friendly initiatives. If we somehow succeed in doing so, then will help shift the economic activities towards more carbon friendly, global warming friendly initiatives.
