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to the redistribution of the mix of economic activities across regions and countries, yet at the same time the lowering of trade barriers promotes economic welfare both at home and abroad. Policies that effectively reduce the buildup of greenhouse gas concentrations in the atmosphere would, almost by definition, involve reductions in the production of fossil fuels from baseline "business as usual" projections. At the same time, those policies would foster the growth of other industries and sectors, including those that provide energy-efficiency products and services.

"Top-Down” vs. “Bottoms-Up" Models

Q3. We have heard the terms “top-down” and “bottom-up” used to describe different types of models used to evaluate economic impacts of energy price changes.

Q3.1. What do these terms mean?

A3.1. “Top down” models are representations of the activity of the entire economy using
a set of equations and other mathematical relationships (such as input-output
tables) to describe how the structure of the economy and how it evolves over time.
"Bottom up" models are based on detailed estimates of the economic
consequences of adoption or diffusion of particular technologies throughout the
economy. Bottom-up models rely on micro-level data about costs, inputs, and
outputs for particular technologies.

Q3.2. Which type of model was used to produce the results you are discussing?
A3.2. As discussed in my written submission, I relied on both kinds of models.
Q3.3. What are the strengths and weaknesses of each of these approaches?
A3.3. The strength of the top-down models is that they encompass the entire economy,
and are able to represent some economy-wide market interactions. The weakness
of the top-down models is that they inevitably contain built-in assumptions
implying certain tradeoffs between some activities and others (for example,
between production of environmental goods and production of other kinds of
goods). These assumptions necessarily drive the results of the models to a large
degree. Also, to the extent that the top-down models are empirically based, their
parameters are estimated or calibrated from historical data which may not
accurately predict future relationships.

The strength of the bottom-up models is that they correspond to the kinds of
calculations actual business firms and other organizations make when considering
investments or changes in the way they obtain (for example) energy services. The
weakness of the bottom-up models is that it is difficult for analysts to account for

all the information that is available to the many decentralized decision-makers in the economy. (This weakness is even more pronounced in top-down models.)

Reasons for Not Reducing CO, Emissions Through Voluntary Efforts



In 1993, President Clinton announced the Climate Change Action Plan, a voluntary plan which was intended to meet our commitments under the Framework Convention for Climate Change to cap emissions at 1990 levels. Emissions today are now about 10% higher than they were in 1990. Why do you think we did not meet our goals to reduce CO2 emissions through voluntary efforts?

There are many reasons the voluntary plan did not result in the reduction of emissions to 1990 levels. Both firms and individuals have many things to think about, and reducing greenhouse gas emissions has not been a priority of either the government or the private sector. There has been no fossil fuel price signal to gain the attention of businesses and individuals and increase the incentives for energy efficiency, and responsible decisionmakers have not been faced with a mandate to reduce their carbon emissions. The voluntary programs such as EPA's Green Lights and Energy Star and DOE's Climate Wise have been useful in improving both energy efficiency and economic efficiency, but have not been supported at a level sufficient to reverse the trend of increasing emissions. Government policies have continued to subsidize the production and use of fossil fuels. A great deal of social and behavioral inertia has to be overcome to move the economy onto a path of energy-saving productivity growth, and the measures that would be required to accomplish this have not been undertaken.

Energy Prices in the U.S. vs. Other Countries


A number of the analyses appear to assume that energy price rises in the U.S. will necessarily result in our energy prices being higher than those of other countries.

Q5.1. How do U.S. energy prices currently compare with those of our economic competitors?

A5.1. Fossil fuels are commodities that are traded on world markets. It follows that much of the variation in energy prices faced by consumers and industries in different countries are the result of differences in the rates of taxation (and/or subsidization) of fuels by the different countries. This can be seen from the following data reported by the International Energy Agency, showing gasoline prices including and excluding taxes ( The prices are expressed in terms of U.S. dollars as of September 1997:

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A standard source for energy price information across countries is the U.S. Energy
Information Agency's International Energy Annual. (Statistics from the
International Energy Annual 1995, for example, can be found at the EIA website
with URL:

Q5.2. How do they compare with prices in developing countries?

A5.2. See Answer to 5.1 above. The International Energy Annual contains price information for both developed and developing countries.

Energy Cost Subsidization by the U.S. and Other Nations







Don't all nations currently have ways of subsidizing energy costs to attract industry to their country?

It is certainly true that energy subsidies are widespread. It is not established, however, that the purpose of these subsidies is "to attract industry to their countries," or if that were the purpose of a particular subsidy, that it had been effective.

Are fossil fuels directly or indirectly subsidized in the U.S.?


If a country can use energy subsidization to attract industry to locate within their boundaries what would prevent them from doing so now apart from any agreements related to carbon dioxide reduction?

Nothing other than potential conflict with existing laws or international trade agreements would prevent this at the present time. It should be noted that subsidies have to be paid for by someone. It is not good economic policy to increase taxes (with the burden falling on everyone who is taxed) to subsidize relocation of an industry. Subsidies are justified only in cases of market failure, such as when the full benefits of R&D cannot be captured




Countdown to Kyoto-Part 3: The Administration's Global Climate Change Proposal

Thursday, November 6, 1997

Post-Hearing Questions and Answers

Marc W. Chupka

Acting Principal Deputy Assistant Secretary for Policy and International Affairs Department of Energy

Is Industry Economically Irrational?



Your testimony states: “If we fail to act . . . we risk foregoing significant opportunities to enhance efficiency, improve productivity, and capture growing markets for environmentally sound technologies." Is the Administration suggesting business and industry act irrationally and will not seek to enhance efficiency and improve productivity except under a climate treaty, and if so, what is the basis for such a claim?

This Administration is not suggesting business and industries are economically irrational. Business and industry make economic decisions based on market information such as cost of energy and raw materials, wage rates, and interest rates. There may be market barriers, such as incomplete information and aversions to new technologies that impede rationale investments in some cases (see response to question 2). Some of these barriers are addressed through voluntary programs, such as those under the Climate Change Action Plan (CCAP) begun in 1993.

Moreover, business and industry may not incorporate "social costs" or social benefits" in their decision making process. Private costs deviate from social costs when business and industry activities generate negative externalities such as pollution. Private benefits derive from public benefits when business and industry activities generate positive externalities, such as research findings that are available to all. Under normal market conditions, business and industry will not internalize externalities in their economic decisions. A market that incorporates externalities from economic activities would induce business and industry to choose an optimal technology mix, which could be more energy efficient and environmentally sound. Sulfur permit trading is one example where policy has been used to incorporate

Barriers to Energy Efficiency



Your testimony says that the Administration is "committed to working to remove barriers to expanded markets for existing energy-efficient technologies." Please specify the barriers that prevent application of energyefficient technologies.

Barriers to expanding markets for existing technologies to their fullest potential can exist because of a lack of information or education on the part of the purchaser, insufficiently strong price signals, and monopolistic or anti-competitive conditions. Consumers especially may overlook cost saving innovations because they do not have readily available information and time to thoroughly investigate the energy efficiency of every purchase item. This appears to be the problem, for example, in appliance purchases where the emphasis is often on replacing the broken equipment as quickly as possible. Even firms which pay close attention to their "bottom-lines" may fail to adopt more efficient technologies if the prices of less efficient technological alternatives do not fully reflect the social or external costs they impose in the form of higher levels of emissions. Finally, a new technology may fail to succeed because the market power of the dominant firms is great enough to prevent its adoption.

What Will an Agreement Accomplish for the Environment?



We have received testimony that the Administration's proposal, if adopted, would have only a marginal impact on reducing global warming, even assuming the models are correct. Given that Administration officials have made remarkable claims about the deleterious effects of global warming, why didn't the Administration propose deeper cuts in emissions? Is the Administration trying to have it both ways?

Global warming is a long-term problem that requires a long-term response. As suggested by your question, a further response that involves all countries of the world will be required over time to address the challenge of global warming absent a change in the balance of scientific opinion regarding the impact of anthropogenic greenhouse gases on the climate system. We believe that our current proposal represents an appropriate response that can be re-evaluated in the light of evolving science.

We are not trying to have it both ways. We believe that our approach represents a reasonable step that is superior to either a do nothing strategy or one of drastic

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