Global warming seems to be on the mind of many these days. There is no denying that the earth has warmed up over the last century. There is also increasing evidence and a growing consensus among scientists that humanity is contributing to and is probably the main cause of global warming.

There are still many unknowns. There is clear evidence of extremely rapid changes in temperatures in the past. Sediments extracted from the Ross Ice Shelf in the Antarctic, the world’s largest ice shelf, show that it disappears and reappears in cycles. There seems to be a correlation with the solar cycle, yet changes in solar intensity seem too small to cause ice ages without some sort of amplification effect.

Nonetheless, there is a consensus that we should reduce man-made carbon emissions, which seem to be the main human driven cause of global warming. Unfortunately, it strikes me that many people are not doing cost benefit analysis when making their recommendations. The Kyoto protocol as it is designed, if fully implemented with its inflexible rules, would cost tens of billions of dollars with the only benefit of slowing down warming (not reducing temperatures, merely slowing down the increase) by maybe 10 years. Moreover, I rarely see discussions of the benefits of global warming. As most of the warming is happening and will continue to happen at higher latitudes, it will make life more enjoyable and productive for many.

There is also a real question of equity. World GDP has been growing at nearly 5% per year for the past few years, but even if was only 3%, with the power of compounding, the upcoming generations will be much richer – not to mention technically more advanced – than we are. From a question of equity, it’s not clear that we should bear a disproportionately large portion of the costs of fighting global warming.

That is not to say that nothing should be done, quite the contrary, a lot can and should be done – but intelligently. The environment is not owned by anyone and thus no one charges for the right to damage it. This free access causes the “tragedy of the commons” as the resource is doomed to over-exploitation. As economists would put it, if you buy a product that pollutes and are not charged for it, you only bear the marginal private cost of the product and not the marginal social cost that you impose upon society by consuming your product. You will thus over-consume.

In other words, if you want to change consumer behavior to reduce carbon emissions, the easiest way is to tax carbon emissions. There are many ways to do this. To charge corporations, the most efficient way is to create a global carbon market and decrease the annual carbon emission allocations. This would allow factory owners to decide for themselves when it’s more effective to buy the credits or to change their production means. It also has the benefit of not tying their hands technologically. The market will find the most efficient means of decreasing their carbon emissions. I would not trust politicians to make decisions – especially given their tendency to pursue self-interested policies (e.g.; supporting ethanol in corn producing states).

It’s important to note that such markets need to be carefully regulated. The European Union created a trading scheme: the European Union Emissions Trading Scheme (EUETS), but some of the countries, especially France, were so shameful in giving out carbon allocations that price of carbon collapsed. Human ingenuity is very good at dealing with problems. When CFCs were essentially banned, it cost a lot less than expected to replace them. In this case I am sure there are low hanging fruits and we could probably reduce carbon emissions by 10-20% at very low cost.

At the consumer level, given that most of the carbon emissions are generated by fuel consumption for cars, the easiest way to make consumers bear the costs of their consumption is to tax gas. In the U.S. a $0.50 or $1 per gallon tax on gas would go a long way towards pushing consumers towards more fuel efficient cars. Unfortunately, no politician has had the courage to come out with this simple solution – most prefer to hand subsidies for alternative fuels.

It should also be noted that the tragedy of the commons affects not just carbon emissions, but essentially any market where producers or consumers do not bear the marginal social cost of their actions. We should also create carefully regulated global trading markets for other pollutants. On the consumer side congestion charges should also be introduced to decrease traffic and pollution. London successfully introduced such charges with minimal disruption and decreased traffic by 15% at peak times in central London and significantly increased average speeds.