Cicero Policy Briefer

Issue 6, November 2006

The Stern Review: A stark warning to business

By James Allen

This week saw the launch of the long awaited Stern Review. With both the Prime Minister and Chancellor endorsing the report, it is clear that Stern is resonating loudly within Government.

Stern has successfully shifted the debate in two ways:

1. By fully quantifying the economic consequences of inaction on climate change and moving beyond the moral and scientific imperatives (as powerful, of course, as these are).
2. The paradigm of “mitigation or adaptation” is increasingly moving towards a model of adaptation being seen as a short-term solution to deal with the effects of climate change which are already here; mitigation will then be a longer term policy objective. Inaction on climate change would have disastrous consequences.

Stern has argued that “the benefits of strong, early action on climate change outweigh the costs.” It is no longer accepted that ‘green solutions’ are too expensive, or would cost the economy too much. Stern’s stark warning to us all is not on the cost of action, but on the cost of inaction. This, he feels, could shrink the global economy by 20 per cent. In contrast to this huge cost of refusing to act, Stern is confident that the stabilisation of emissions at 500-550ppm CO2e by 2050 can be achieved at a cost of just 1 per cent of the UK’s GDP.

In cutting emissions, Stern has proposed four principal approaches: reducing demand for “emissions sensitive goods and services”, increased efficiency, action on non-energy factors which cause emissions (such as deforestation) and technological developments to switch to lower carbon technologies in the key sectors of energy and transport. There are three ‘pillars’ to the policy developments outlined in Stern:

1. Carbon pricing, through a combination of tax, trade and regulation to charge the ‘real cost’ of carbon usage, based on the economic assumption that carbon usage imposes a ‘cost’ on others.
2. Technological development – initial set-up costs and development will be expensive, and will require increased investment in research and development, but in the long term, the investment will pay off.
3. Behavioural changes – Government will need to work to remove obstacles to changes in consumer behaviour. Stern argues that a lack of information, costs and inertia are the key obstacles, and that regulation on each will be needed.

The implications for the insurance industry are potentially wide ranging, and ignoring Stern is not an option. Investment and insurance practices are to come under ever greater governmental and consumer scrutiny, and carbon-intensive behaviour in particular is likely to be discouraged through a revised regulatory and taxation regime. There will be continued focus in the new policy, regulation and fiscal environments.

In the insurance industry, for example, there will have to be revisions to the risk management framework under which current operations take place. However, policy change brings opportunities to financial services along with the rest of the UK economy, and the challenge will be to work in partnership with the policy community. Insurers, with their pan-global reach, should be working toward business solutions to the climate change problem, particularly given the emphasis which Stern gives the global perspective.

James Allen can be contacted on +44 (0)20 7665 9530 or click here to email.

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