How restricting carbon dioxide and methane emissions would affect the Indian economy

Pollcy Research |tw WORKING PAPERS World Development Report Office of the Vice President Development Economics The World Bank September 1992 WPS 978 Background paper for World Development Report 1992 How Restricting Carbon Dioxide and Methane Emissions Would Affect the Indian Economy Charles R. Blitzer R. S. Eckaus Supriya Lahiri and Alexander Meeraus The economic effects on India of restricting carbon dioxide and methane emissions would be profound. Would compliance with international agreements foremission restrictions be more likely if they required annual, rather than cumulative, reductions? Policy Research Woking Paperadis eminate thefuidings ofwork in progress and encouragetheexchangeofideas amengBank staff and sll others interested in developrnent issues. T'hese papoes, distributed by theResearch AdvisoTy Staff.easry thenames oftheauthors,refkec only theirviews. and should be used and cited accordingly. Thefindings,intepstadons, andconclusionsarethe authoes'own.Theyshoud not be attributed to the World Bank, its Board of Directors, its management. or any of its member countries.  Policy Research World Development Report WPS 978 This paper - a product of the Office of the Vice President, Development Economics - is one in a series of background papers orepared for the World Development Report 1992. The Report, on development and the environment, discusses the possible effects of the expected dramatic growth in the world's population, industrial output, use of energy, and demand for food. Copies of this and other World Development Report background papers are available free from the World Bank, 1818 H Street NW, Washington, DC 20433. Please contact the WorldDevelopmentReportoffice, room T7-101, extension 31393 (September 1992,40 pages). India and China between them contain about 40 The implications of different forms of percent of the earth's people. They are at an emissions restrictions - annual, cumulative, and early stage of economic development, and their radiative forcing - deserve more attention. ir.creasinglv massive energy requirements will Cumulative restrictions - or better still, restric- depend heavily on coal, a potent source of tions on radiative forcing - are closely related carbon dioxide, a powerful and long-lasting to public policy on greenhouse effects. Such greenhouse gas. restrictions also provide significant additional degrees of freedom for the economic adjustments India also has important sources and uses of required. They do this, in part, by allowing the hydroelectric and nuclear power, petroleum, and postponement of emissions restrictions, which is natural gas. Agriculture still produces about 30 not permitted by annual constraints. Of course, percent of its gross domestic product, and about the question arises whether a country, having 72 percent of the population lives in rural areas benefited from postponing a required reduction - with their large animal populations and in emissions, would then be willing to face the substantial forest acreage. India has vast cities consequences in economic losses. and an industrial sector that is large in absolute terms, although it represents only 30 percent of Might there be a genuine preference- the economy. albeit an irrational one - for taking the losses annually? Would compliance with international The model developed to analyze the eco- agreements for emission restrictions be more nomic effects of constraints on greenhouse gas likely if they required annual, rather than cumu- emissions is a multisectoral, intertemporal linear lative, reductions? Monitoring requirements programming model, driven by the optimization would be the same in either case; if effective of the welfare of a representative consumer. A monitoring were carried out, it would detect comprehensive model was built not to project the departures from cumulative or radiative forcing future at a single stroke but to begin to answer constraints just as easily as departures from questions of a "What if?" form. annual constraints. The results strongly suggest that the eco- nomic effects on India of such constraints would be profound. ThePolicy ReserchWorking PaperSeriesdisserdb nates thefndingsof workunderwayintheBan. Anobjectiveof theseries is to get these findings out quickly, even if presentations are less than fully polished. The findirgs, interpretations, and conclusions in these papers do not necessarily represent of ficial Bank policy. Produced by the Policy Research Dissemnination Center  Charles R. Blitzer, World Bank R. S. Eckaus, Department of Economics, MIT Supriya Lahiri, Department of Economics University of Massachusetts at Lowell Alexander Meeraus, GAMS Development Corporation** Prepared as a Background Paper for the World Development Report. 1992 * The research on which this paper is based was supported by The National Science Foundation, The Rockefeller Foundation and The World Bank. ** The authors are deeply indebted to a number of persons for the valuable assistance they provided: Peter Brixen, Daniel Gana, Michael Gordy, Nilla Kim, Efthymia Korodima, Aparna Rao, Julie Stanton and Dio Tsai. They have benefitted from the suggestions and comments of Patricia Annez.  The World Development Report 1992, "Development and the E 'vironment," discusses the possible effects of the expected dramatic growth in the world's population, industrial output, use of energy, and demand for food. Under current practices, the result could be appalling environmental conditions in both urban and rural areas. The World Development Report presents an altemative, albeit more difficult, path - one that, if taken, wouldi allow future generations to witness improved environmental conditions accompanied by rapid economic development and the virtual eradication of widespread poverty. Choosing this path will require that both industrial and developing countries seize the current moment of opportunity to reform policies, institutions, and aid programs. A two-fold strategy is required. * First, take advantage of the positive links between economic efficiency, income growth, and protection of the environment. This calls for accelerating programs for reducing poverty, removing distortions that encourage the economically inefficient and environmentally damaging use of natural resources, clarifying property rights, expanding programs for education (especially for girls), family planning services, sanitation and clean water, and agricultural extension, credit and research. * Second, break the negative links between economic activity and the environment. Certain targeted measures, described in the Report, can bring dramatic improvements in environmental quality at modest cost in investment and economic efficiency. To implement them will require overcoming the power of vested interests, building strong institutions, improving knowledge, encouraging participatory decisionmaking, and building a partnership of cooperation between industrial and developing countries. Other World Development Report bac'.ground papers in the Policy Research Working Paper series include: Dennis Anderson, "Economic Growth and the Environment" Dennis Anderson and William Cavendish, "Efficiency and Substitution in Pollution Abatement: Simulation Studies in Three Sectors" William Ascher, "Coping with the Disappointing Rates of Return of Development Projects with Environmental Aspects" Edward B. Barbier and Joanne C. Burgess, "Agricultural Pricing and Environmental Degradation" Robin W. Bates and Edwin A. Moore, "Commercial Energy Efficiency and the Environment" Wilfred Beckerman, "Economic Development and the Environment: Conflict or Complementarity?" Richard E. Bilsborrow, "Rural Poverty, Migration, and the Environment in Developing Countries: Three Case Studies" Charles R. Blitzer, R.S. Eckaus, Supriya Lahiri, and Alexander Meeraus, (a) "Growth and Welfare Losses from Carbon Emission Restrictions: A General Equilibrium Analysis for Egypt"; (b) "The Effects of Restrictions of Carbon Dixide and Methane Emissions on the Indian Economy" Judith M. Dean, "Trade and the Environment: A Survey of the Literature"  Behrouz Guerami, "Prospects for Coal and Clean Coal Technology" David 0. Hall, 'Biomass" Ravi Kanbur, "Heterogeneity, Distribution and Cooperation in Common Property Resource Management" Arik Levinson and Sudhir Shetty, "Efficient Environment Regulation: Case Studies of Urban Air Pollution" Robert E.B. Lucas, David Wheeler, and Hemamala Hettige, "Economic Development, Environmental Regulation and the International Migration of Toxic Industrial Pollution: 1960-1988" Robert E.B. Lucas, "Toxic Releases by Manufacturing: World Patterns and Trade Policies" Ashoka Mody and Robert Evenson, "Innovation and Diffusion of Environmentally Responsive Technologies" David Pearce, "Economic Valuation and the Natural World" Nemat Shafik and Sushenjit Bandyopadhyay, "Economic Growth and Environmental Quality: Time Series and Cross-Country Evidence" Anwar Shah and Bjorn Larsen, (a) "Carbon Taxes, the Greenhouse Effect, and Developing Countries"; (b) "World Energy Subsidies and Global Carbon Emissions" Margaret E. Slade, (a) "Environmental Costs of Natural Resource Commodities: Magnitude and Incidence"; (b) "Do Markets Underprice Natural Resouce Commodities?" Piritta Sorsa, "The Environment - A New Challenge to GAiT?" Sheila Webb and Associates, "Waterborne Diseases in Peru" Background papers in the World Bank's Discussion Paper series include: Shelton H. Davis, "Indigenous Views of Land and the Environment" John B. Homer, "Natural Gas in Developing Countries: Evaluating the Benefits to the Environment" Stephen Mink, "Poverty, Population and the Environment" Theodore Panayotou, "Policy Options for Controlling Urban and Industrial Pollution" Other (unpublished) papers in the series are available direct from the World Development Report Office, room 17-101, extension 31393. For a complete list of titles, consult pages 182-3 of the World Development Report. The World Development Report was prepared by a team led by Andrew Steer; the background papers were edited by Will Wade-Gery.  Table of Contents I. Introduction. 1 II. The Structure of the Model ......................... 2 IIL. Calculation of Emissions and Formulation of Emission Constraints ............. 4 IV. Description of the Database ..................................... 6 V. C-_1laracteristics of the Base Soludon. 9 VI. Scenarios of Emission Reductions ................................. 12 VII. Comparisons of Results of Alternative Scenarios ....................... 14 VIII. Conclusions ....................................... 30 Model Equations and Constraints ........................... 33 Endogenous Variables .... ........................... 36 Parameters and Exogenous Variables .......................... 38  I. -Intoductin India and China are two of global environmentalism's great worries. As the world's world's population giants, they have between them roughly forty percent of the earth's people. They are each still at an early stage of their potential economic development and their increasingly massive energy requirements will be heavily dependent on coal, a potent source of carbon dioxide - itself a powerful and long-lasting greenhouse gas. It is thus especially important to try to understand both the potential impact that Indian and Chinese economic developmenm might have on the global environment, and the potential economic consequences of constraining their emissions of greenhouse gases. This study focuses on India, whose data sources are relatively accessible.' The authors have argued the point elsewhere that it is important that studies of the economic consequences of greenhouse gas emission restrictions be undertaken for particular countries on a relatively disaggregated basis.2 While international negotiations on greenhouse warming proceed, participation in any agreements will effectively be decided at the country level. Individual nations will, implicitly or explicitly, make their own benefit-cost analyses, as well as assessments of the global consequences of their environmental policies; in this process they will, inevitably, take account of the manner in which greenhouse gas emission restrictions will affect their own economies. They will also take into account the likely regional effects of global warming, since present global climate forecasts suggest strong gerographic variation in the effects of global warming. Assessments of the benefits, as well as the costs, of global environmental policies therefore require a focus at the national level.3 Country level studies will also have a more reliable data base and, in order to catch the special features of each country, disaggregation becomes essential. India is an especially interesting subject of study, not only for its size, but also for its diversity. Although heavily reliant on coal, it has important sources and uses of hydroelectric as well as nuclear power, petroleum and natural gas. Agriculture still produces about 30 percent of its gross domestic product and rural areas contain about 72 percent of its total population. Of significance for greenhouse gas emissions and carbon dioxide fixing, it has a large animal population and substantial forest acreage. It also has vast cities and an industrial sector that, although still relatively small at 30 percent of the economy, is large in absolute terms. These features call for at least a moderate degree of sectoral disaggregation in order to identify the significance of different sectors for both growth and greenhouse gas emissions. The analytical structure should also be able to demonstrate the consequences of growth and change over time: for example, in the availability of fuel reserves, and use of alternative sources of ' For a similar analysis of carbon emissions restrictions in Egypt, see Blitzer, Eckaus, Lahiri and Meeaus, Growth and Welfare Losses from Carbon Emissions Restrictions: A General Equilibrium Analysis for Egypt, Policy Research Working Paper Series, World Bank, 1992. 2 Op. cit. 3 In fact, India is so large, that greenhouse effects might well be expected to vary across its regions. 1  energy. The model constructed and used below to analyze the economic effects of constraints on greenhouse gas emissions is similar to other models that have been used by the authors and other economists for the same purpose. It is a multisectoral, intertemporal linear programming model, driven by the opdmization of tho welfare of a representative consumer.4 There are natural resource, capita! formation, capital use, foreign exchange, and international borrowing constraints. For each sector, there are alternative technologies that embody relationships both of complementarity and substitution among labor, capital and energy inputs. However, the substitution possibilities are limited; for example, it is never possible to produce electric power with only labor and capital. The economic consequences of constraints on emission rates, cumulative emission amounts and their radiative forcing effects are examined for alternative solutions. The constraints are applied at different rates and times in order to illustrate the potential consequences of different policies. The model has some important new features that, we believe, place it in the second generation of such analyses. Methane as well as carbon dioxide emissions are identified and accounted for, permitting the investigation of interactions between constraints on these two greenhouse gases. The cumulative amounts of both types of emissions are calculated with a rudimentary adjustment for the decay or disappearance of these gases. In some of the alternative scenarios, constraints are placed on these accumulated emissions and, separately, on the total amount of radiative forcing from emissions. These formulations allow for the additional (and realistic) flexibility that might be exercised if binding commitments are made to reduce greenhouse warming. I. The Structure of the Model The basic structure of intertemporal optimizing of the typo used here, has been made familiar by previous work. The model's structure is described here only in general terms, except for some particularly significant and distinctive features.5 The economic variables determined by the model are investment, sectoral capital capacity and production, household consumption by sector, energy demand and supply, imports and exports, international borrowing and relative prices, as well as emissions of carbon dioxide and methane. The interactions between these variables are endogenous and subject to the various constraints of technology, foreign exchange and foreign reserves, and rules for capital formation and labor mobility. The model has a 71 year time horizon; the first period is 6 years long; thereafter, they are 5 years each. Long periods are used to avoid the additional computation required by a more deialed year-by-year formulation. While this creates a somewhat artificial pacing, it still 4 See pp 33-35 for the relevant equations and constraints. 5 For further details, see pp 33-40. 2  provides a reasonably close temporal approximation of growth conditions. The long time horizon provides an ample term for adjustments.6 The objective or welfare function which is optimized is the discounted sum of aggregate consumer utility over the model's horizon. The utility of the representative consumer in each time period is a weighted logai.thmic sum over all goods of the difference between their consumption of each type of good and a parametrically fixed, minimum corisumption level. Individual utility is then multiplied by the projected population to obtain aggregate utility. This formulation is identical to simulating the market-behavior of a representative consumer, modeled as a linear expenditure system. The representative consumer's choice of goods in the consumption basket will depend on relative prices and income levels, which are determined within the model. While these conditions will be affected by environmental policies, environmental conditions do not enter directly into the consumer's utility function. The material balance constraints require, in each period, that aggregate output use can be no greater than aggregate output availability. The availability of output in each sector depends on domestic production and, where feasible, on imports. Intermediate inputs, with the exception of energy inputs, are detei'mined by an input-output matrix. The set of alternative technologies or, "activities," for the use of labor, capital and energy in each sector is specified exogenously for different input patterns. The choice among alternative technologies in each sector is determined endogenously, in response to relative prices of inputs and outputs, also determined endogenously and reflective of real relative scarcities. The total output of each sector is the sum of production from each technology. The endogenous technological choices within each sector are one of the most significant features of the model for the purposes both of assessing the environmental impacts of economic activity and of adjustment to greenhouse gas emission constraints. An exception to the exogenous specification of technological alternatives is made for petroleum products and naturai gas fuels. In effect, the BTI requirements from petroleum products or natural gas per unit of output are specified, but can be met by using either input. The choice will be made endogenously, and will depend on relative prices and any constraints that affect those prices. Coal, hydropower and wood are also fuels and, in alternative scenarios, nuclear power, gas-powered transport and a set of "renewable" power generation technologies are made available as "backstop" methods. The initial population of India is taken as 749.6 million and is assumed to grow at an annual. rate of 1.9 per cent. The base year reserves of crude oil, natural gas and coal are estimated at 4.5 billion barrels, 21 trillion cubic feet and 34 billion metric tons, respectively. It is assumed that there are initially 74.8 million hectares of forest and 379 million head of cattle with growth rates of xx and 10 per cent per year, respectively. The initial level of foreign debt is estimated at $23 billion and is assumed to grow at 4 per cent per year; the foreign exchange rate is set at 11.88 rupees per dollar. The composition of capital varies in each sector; consistent with this variation, capital 6 In general, results are reported only to 2040; the simple method of imposing terminal conditions contaminates the solutions in subsequent periods. 3  is specific to each sector and also to the particular technology that it embodies. This specificity creates "adjustment costs" that are an essential aspect of those major policy changes that are envisaged in the imposition of emission constraints. Capital formation in each period in each sector requires that investment be undertaken in the previous five year period. Depreciation rates are specified exogepously for the capital stock used by each technology in each period. Foreign trade is confined to the tradeable goods sectors: agriculture, manufacturing, transportation, other services, crude oil and petroleum products. Exports are chosen endogenously by the model, but are subject to constraints that limit their growth rates in particular sectors. Non-competitive imports are required in some sectors, in fixed ratios to output, and competitive imports are distributed as an optimal substitution for domestic production, insofar as foreign exchange availabilities allow. As an approximate way of recognizing limited flexibility in the response of exports and imports to changes in relative prices, the rate of change of each of these is constrained, although within wide bounds. The overall balance of payments constraint limitz imports to what can be paid for from exports and foreign exchange resources. Foreign borrowing is allowed, within moving upper bounds. The problems of establishing initial and terminal conditions in a model of this sort are well-known. Here, they are finessed in a relatively harmless manner. In the initial period, sectoral levels of investment are constrained not to exceed those actually achieved in 1990. In the terminal period of the model, 2087, sectoral levels of investment are determined by the condition that they be adequate to sustain an exogenously specified rate of growth of output in the relevant sector during the post terminal period. These terminal conditions create some anomalies in the final periods of the model's time horizon; these are not important for the essential characteristics of the solutions. Results are reported only for the period from 1990 to 2050. me Calculation of emissions and formulation of emission constraints Greenhouse gas emissions have three different source types in this model: (1) the use of hydrocarbon fuels, (2) certain production processes, and (3) as by-products of the total stocks of certain assets used in production. In the latter category, forests serve as a "negative emitter," or a means of fixing atmospheric carbon. The emissions of carbon dioxide and methane from hydrocarbon fuels are determined by simple ratios to the amounts of the fuels. Since different amounts of the fuels are used in each of the alternative technologies in each sector, there will be differences in emissions of the two greenhouse gases by sector and technology. The quantity of the greenhouse gas of type, VP, that is generated by the use of a particular fuel, i, in ?roduction with technology, k, in a particular sector, j, in period, t, is VPijx,,t. So the total amount of gas generated by the use of a particular fuel in the sector is obtained by summing over all technologies: Vpij,r,t = E1kV ij,k.r,t 4  The total amount of the gas generated by the use of the particular fuel in all sectors is: VPh,,,, = E,VPij,,.t The generation of the gas is related to the use of the particular fuel in the sector by a coefficient, vPij,k,r,t. Thus: Vpij,k#,'t, = VS,j.k.r X1Xt Among the production processes that generate carbon dioxide and methane, other than the combustion of fuel, perhaps the most important is cement production, which generates carbon dioxide through burning limestone. Methane is also lost in the production, distribution md use of natural gas, as well as through its combustion. These relationships are like those above, except that the variable determining the amount of the emissions is sectoral output, rather than fuel inputs. There are also methane emissions from rice paddies, cattle, and coal mines, which are "stocks" of natural assets. The generation of methane in paddy rice production depends on the acreage in production. Methane emissions from both rice paddies and coal mines are approximated by production relationships. Methane emissions from cattle are related to total numbers of the animals. without adjustments for the composition of their feed. The fixing of carbon in trees is related to their total acreage; it is subtracted from the total of carbon emissions genetated by other sources to obtain the total carbon emissions of the economy as a whole. These latter emissions/stock relationships are therefore of the form: I,r,t~~ V,r,t j,t where V;,, is the amount of emissions of type r from stocks in sector j at time t; Vsr,,t is the emission/stock ratio, for gas r in sector j at time t; and Sj,, is the stock releasing emissions in sector j at time t. Cnstraints In order to test the effects of limitations on the contribution of the Indian economy to greenhouse warming, constraints were applied in several alternative forms. First, a Base Solution was found in which emissions of CO2 and CH4 were not constrained. Then, in subsequent solutions, limits were placed on the rates of carbon dioxide and methane emissions, as a proportion of the amounts of these two greenhouse gases that were generated in the Base Solution. A restriction on annual emissions is the type of limitation most frequently analyzed in previous models, includ - those of the present authors. It is also the emissions policy that appears to be at the center oa the attention of the International Negotiating Committee of the UN. However, there seems to be no scientific nor economic necessity in controlling annual rates of emissions. Since radiative forcing depends on the amounts of the greenhouse gases in the atmosphere, the type of constaint which deals more directly with the causes of global warming is that on increments in the accumulated amounts of each gas. The constraint is 5  plausible only on the assumption that India is ascribed a certain quota of the increments in worldwide emissions of each gas. To implement this constraint, the total accumulated amount of each gas, ANF,. must be calculated as: ANE,,t = ds0r, ANE,, + (dsO,', /2) (TE,, + TE,.j), where ds