The earth, humanity, the economy and the actuarial profession

Transcription

1 The earth, humanity, the economy and the actuarial profession Sam Gutterman International activities Rob Thomson New economics Taryn Reddy Sam Gutterman Sustainability Climate change mortality and social discounting

2 The earth, humanity, the economy and the actuarial profession Sam Gutterman International activities Rob Thomson New economics Taryn Reddy Sam Gutterman Sustainability Climate change mortality and social discounting

3 Who s talking about the environment? 3

4 Agenda 1. The IAA 2. United Nations 3. Others 4

5 The International Actuarial Association Climate change and other environmental issues Responsibility of the Environment and Resources Working Group Reports to the Scientific Committee Four years old Responsible for relations with supranational organizations dealing with the environment 5

6 The United Nations United Nations General Assembly Council of Parties (COP) UN Environment Programme (UNEP) UNEP Finance Initiative (FI) UN Economic and Social Council (ECOSOC) World Metereorologic Organization (WMO) UN Framework Convenstion on Climate Change (UNFCCC) Principles of Sound Insurance (PSI) Intergovernmental Panel on Climate Change (COP) Warsaww International Mechanism 6

7 Other supranational organizations the IAA relates to on climate change issues Financial Stability Board Task Force on Financial Disclosures Organization for Economic Cooperation and Development And many others as our involvement expands 7

8 The earth, humanity, the economy and the actuarial profession Sam Gutterman International activities Rob Thomson New economics Taryn Reddy Sam Gutterman Sustainability Climate change mortality and social discounting

9 New economics Ecological economics Social economics Neoclassical economics Economics I as taught to actuarial students Institutional economics Quantity theory of credit 9

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13 Source: Tietenberg (1992) 13

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15 The Commoner-Ehrlich identity The environmental effect of human activity is I PCT; where: P is the human population; C is consumption per head of population; and T is the environmental effect of human activity per unit consumption. 15

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19 World GINI coefficient World GINI Coefficient Year 19

20 20 Actuarial Society 2016 Convention November 2016

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24 Environmental resources non-renewable, including fossil fuels conditionally renewable, including forests, fish and environmental services inexhaustible, solar energy 24

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26 26 Actuarial Society 2016 Convention November 2016

27 27 Actuarial Society 2016 Convention November 2016

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29 Our oceans are being plundered by massive overfishing. The global fishing fleet is 2-3 times larger than what the oceans can sustainably support. In other words, people are taking far more fish out of the ocean than can be replaced by those remaining. Source: WWF 29

30 30 Actuarial Society 2016 Convention November 2016

31 In summary, ecological economics is different; it treats human society as a subset of the biosphere, and the economy as a subset of human society; requires sustainability, not just efficiency, in each of those domains; treats the biosphere as intrinsically valuable and not as natural capital mutually substitutable with human capital and manufactured capital; upholds the precautionary principle; calls for policy to be based on the nurture of the Earth and the well-being of humanity, not on GDP; recognises that human well-being is about needs, not just wants; takes inequality seriously; recognises limits to material growth imposed by population growth and finite non-renewable and conditionally renewable resources; recognises that economic choices need not be, and often cannot be, fully rational. 31

32 The earth, humanity, the economy and the actuarial profession Sam Gutterman International activities Rob Thomson New economics Taryn Reddy Sam Gutterman Sustainability Climate change mortality and social discounting

33 Agenda 1. What is sustainability? 2. Why measure sustainability? 3. Current measures 4. Research agenda 5. Why should actuaries be involved? 33

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35 Is human activity sustainable? NO! 35

36 The definition is not the problem, the meaning is Oxford dictionary: the ability to be maintained at a certain rate or level The experts have confused the issue Sustainability is used very clumsily and sloppily Two contexts of sustainability

37 Some common themes in understanding sustainability Environmental, social and economic sustainability Accountability Long-term view Global view 37

38 Brundtland report s definition of sustainable development [meeting] the needs of the present [generation] without compromising the ability of future generations to meet their own needs Good: Bad: long-term view Social domain Anthropocentric development Who is being held accountable? And in which domains? Not a global view 38

39 Sustainability performance Sustainability is binary Performance is continuous 39

40 What do we mean by sustainability? The global economic system that is, the sum total of human economic activity is taken to be sustainable if, assuming its indefinite continuance, the effects of that activity will enable the environment, human society and the economic system itself to attain and maintain a specified state of well-being in the world. 40

41 Why measure sustainability? Sustainable or unsustainable? Main culprits Comparability Accountability for the past and present Responsibility for the future sustainability 41

42 Current measures aren t telling the full story 42

43 Overabundance of indicators Go forth and create indicators GRI indicators Cannot compare Open to manipulation SRI index is a case in point Current rates 43

44 What are we looking for in a measure of sustainability? Three domains Ultimate outcomes Meaningful Additive Can be disaggregated 44

45 Accountability Accountability Responsibility for future sustainability 45

46 Research agenda Criteria for the specification of measures Time-series models developed Explanatory variables defined Formulation of the triple bottom line 46

47 Why should actuaries be involved? Multidisciplinary Use our skills set to address new problems Affect on the profession Actuarial modelling extended to three domains Advice extended to other two domains Jones et al.- actuaries should urgently seek to understand the implications of [resource constraints] for their advice, assumptions and models. Work is being done in the actuarial profession 47

48 Thank you Contact details: Taryn Reddy Lecturer and PhD student University of the Witwatersrand

49 The earth, humanity, the economy and the actuarial profession Sam Gutterman International activities Rob Thomson New economics Taryn Reddy Sam Gutterman Sustainability Climate change mortality and social discounting

50 Mortality and climate change

51 Agenda 1. Background to the report 2. Direct effects of climate change 3. Multi-faceted effects 4. Potential mortality consequences 5. Vulnerable populations 51

52 Background to the report Report a product of the Resources & Environment Working Group of the International Actuarial Association (IAA) Work in Progress Expected to be completed in first half of 2017 Addresses an important potential result of climate change 52

53 Direct effects of climate change Increased level and variability in temperature Includes rainfall and humidity Increased volatility in natural climate events Storms, extreme heat Slow onset conditions Sea level Desertification Affects different areas differently 53

54 Multi-faceted effects 54

55 Wide regional variation Very substantial mitigations rapidly put in place Little change in emissions Source: Intergovernmental Panel on Climate Change (IPCC) 5 th assessment report (Working Group 1, Summary for Policymakers) 55

56 1.3: Potential mortality consequences not all bad Beneficial Adverse 56

57 Vulnerable populations Especially hard-hit Poor, less developed areas, extreme ages May not be able to afford To move elsewhere For example, where affected by drought, sea level change or conflicts Mitigation to prevent or minimize losses in advance For example, infrastructure Adaptation 57 For example, air conditioners

58 Insured/Pension effects Insured and pension population tends to be upper- and middle income May not be as greatly affected, although there may be exceptions Sudden natural disasters can affect everyone Although residences and work places may be better constructed, so less losses May be able to afford better medical care and preventive measures Micro-, mobile phone and cooperative insurance may help 58

59 Quantitative analysis Challenging A great deal of uncertainty Many aspects of climate change difficult to estimate Effects can be volatile Stochastic analysis may be useful Alternative approach Scenario analysis Stress testing if the effects on an institution being studied 59

60 Social discounting

61 Agenda 1. The project 2. Discounting 3. Social discounting and climate change 4. Inter-generational equity 5. Uncertainty 6. Structure and application 7. Real options 8. Challenges 61

62 The project Funded by the Society of Actuaries Has a recently established Project Oversight Group Currently a work-in-progress Expected completion

63 Discounting Purposes*: Recognizes the time value of money Reflects or provides for risk in projected future asset cash flows or Reflects the opportunity cost of holding an asset Perspectives** Consumption rate at which society is willing to substitute consumption in the future for consumption today Investment rate at which equates the need to invest less than a dollar today to obtain a dollar of benefits in the future Different bases for discounting are possible Key element in cost-benefit analyses Effects of time and risk/uncertainty are related * International Actuarial Association (2013) Discount Rates ** Arrow et al. (2013) Determining Benefits and Costs for Future Generations 63 63

64 Social discounting Application of discounting to quantitative assessment of social issues Contrasts between two discounting applications Market discount rate Often used by actuaries Reflects the preferences of market participants who express their value of time through transaction prices for goods or services Social discount rate A parameter that measures the importance of the welfare of future generations relative to the current generation Observable market prices do not reflect costs and benefits to society, as they only reflect views of the market participants 64 Perspective is the country s policymaker 64

65 Why shouldn t market rates be used? Social discount rates are different from market rates because of imperfections in the market relative to the purpose of this application Market prices (costs or benefits) don t include costs to society that are external to the parties involved Shorter-term focus Costs involve irreversible environmental damage Doesn t consider non-financial costs Irrationality of certain market participants 65 Effective hedges unavailable 65

66 Importance In long-term cost-benefit analysis, the choice of discount rate represents one of the key areas of dispute Discount factor at 200 years: 1.0% % % % Recent survey of 197 climate change economists* Range 0% to 10%, with 92% comfortable between 1% and 4% Mean 2.0%, median 2.25% * Drupp et al. (2015) Discounting Disentangled 66 66

67 Relation to climate change To assess the current value of costs associated with mitigation of or adaptation to the effects of climate change CO2 emissions remain in the atmosphere for centuries Therefore, very long time frames and multiple generations are involved Almost irreversible in the absence of effective sequestration A primary reason why climate change costs are looked at differently from other long-term costs Other emissions have much shorter half-life, e.g., methane 67 67

68 Climate change assessment process Greenhouse gas emissions Accumulated greenhouse gases in atmosphere and oceans Mitigation activities Warmer, more volatile weather conditions and other climate change effects Adaptation activities Economic damages - sudden and slow onset Estimated value in present value terms Time and risk preferences 68 68

69 Inter-generational equity A concern because climate change will affect many generations In addition to the usual issue of intra-generational equity The question: In current decision-making, how to fairly weight the irreversible costs associated with current action expected to be borne by future generations? 69 69

70 The Ramsey formula Economist Frank Ramsey (1928) presented a social discount rate approach to analysis of savings Commonly used by economists for cross-generational discounting: r = ρ + ƞ g; where: r = social discount rate; ρ = pure rate of time preference; ƞ = elasticity of marginal utility (in terms of a utility function); and g = per capita growth rate of consumption

71 The Ramsey formula (2) In macro-economic terms, the consumption rate of interest the rate at which society would substitute consumption in a future year for consumption in the present First term: pure time preference Viewed by advocates of speedy environmental action (e.g., Lord Nicholas Stern) as an ethical issue shouldn t put the next generation in a worse position compared with the current one Makes the case for a 0% rate Second term: growth factor Represents the expected extent that the future will be better off than the present Doesn t take into account uncertainty 71 71

72 Uncertainty Any projection of the effects of climate change involves a great deal of uncertainty Future GHG emissions Natural offsets Effects of climate frequency, amount, and timing Costs of mitigation Discount rate Environmental decisions should consider uncertainty Classical actuarial theory Either an increase to expected cash flows or reduction in discount rate In this context, typically use a reduction in discount rate Often characterized by a declining set of discount rates, adopted by at least United Kingdom and France in their decision-making Ramsey formula, which assumes certainty, has been adjusted by addition of a third term: 0.5ƞ2σ

73 Structure of social discount rates Practice to date varies by national government between: Level discount rates Simple U.S. government requires alternative discount rates: 3%, 3.5% and 5.0% Declining discount rates More consistent with currently accepted theory and reflection of uncertainty U.K. start at 3.5% declining to 1.0% after 300 years 73 France start at 4.0% declining to 2.0% after 30 years 73

74 Application of social discount rates Important to recognize who the user of such cost-benefit analyses is Ramsey formula often applied to consumption, reflecting society s utility function But some have expressed concern regarding the ability to accurately quantify this function In contrast, actuaries usually apply discount rates to cash flows or riskadjusted cash flow equivalents In any case it is difficult to incorporate non-financial costs, such as 74 human life, residential oceanside property and heritage assets 74

75 Real options Definition The right, but not the obligation, to undertake an initiative, such as deferring, abandoning, expanding, staging, or contracting a capital investment project In valuation, many options exist for a public policy decision-maker for a climate change initiative To act on or defer (procrastinate) action For example, based on New information, future resources availability, or expected (hoped for) new technologies For discussions of climate change prior to 2007 It was common to assume future costs won t be that bad and that future technologies will be able to provide a cost effective response Difficult to quantitatively reflect these options 75 75

76 Remaining issues to be addressed Note that this is a political issue It involves allocation of resources ( fairness ) between Developed and developing countries Well-off and vulnerable who are most affected Generations High degree of uncertainty, speculation and subjectivity Jobs and money are at risk Unsurprisingly, those who advocate immediate action tend to justify a lower social discount rate, while those who advocate limited or deferred action tend to justify a higher social discount rate Can a single approach equally apply to mitigation and adaptation decisions 76 76