Developing economies can provide an invaluable contribution to the effort to prevent further climate change. Below Tabitha M. Benney illustrates how a better understanding of differing market economies is needed before policymakers try to use markets to solve large-scale global problems.
Global Capitalist Trends
We currently live in a moment in history where the changing dynamics of the global economy and world politics seem evident. One especially defining characteristic of the global economy today is the rise of emerging market economies (EMEs). This trend first became evident in the 1960s with the rise of the Asian Tigers. Then, beginning in the 1980s and intensifying following the end of the Cold War, a further group of developing states began to initiate economic and political reforms. Others followed suit in the early 2000s.
Today, the rapid economic growth experienced by the EMEs has led to an increasing share of global wealth for many of these states. If this trend persists, we shall witness the most impressive closing of the gap between rich and poor countries in world history. Such dramatic changes are highly relevant because they raise important issues about the distribution of global monetary and fiscal power. As the EMEs have gained importance in the global economy, their influence and significance have grown across a wide range of policy domains. One particularly relevant example is the increasingly critical role of EMEs in addressing climate change.
Indeed, it is widely believed that developing countries’ participation is required for a truly effective solution to global warming. This is particularly relevant now that emissions levels from the developing world are rising. Due to the generally stronger rate of economic growth and continued use of fossil fuels in these states, their share of cumulative emissions is expected to reach 51 percent by 2020.1 Although these states are increasingly responsible for the ongoing problem, they also have great potential for reducing global emissions levels. For instance, the Organisation of Economic Cooperation and Development (OECD) speculates that emissions-reducing projects in the developing world alone have the potential to contribute over 50 percent of the total emissions reductions mandated by the Kyoto Protocol.2 As a result, a variety of international policies have been designed to directly target these states and encourage them to control their growing emissions.
One such policy was established by the United Nations Framework Convention on Climate Change (UNFCCC) under the Kyoto Protocol in 1997. As is commonly understood, the objective of the Kyoto Protocol was to stabilise greenhouse gas (GHG) emissions at a level that would prevent dangerous anthropogenic interference with the climate system. To address its goals, the Kyoto framework required the more advanced economies (known as Annex I countries) to limit or reduce their GHG emissions.
However, the industrialised world cannot solve the problem of climate change alone. To encourage the participation of the non-Annex I countries, which are largely found in the developing world, the negotiators of the Kyoto Protocol
established an additional market-based mechanism called the Clean Development Mechanism (CDM). The CDM works like a subsidy to offset the cost of pollution-reducing technologies in the developing world. By funding “green” technologies and encouraging cleaner technology updates, developing states are expected to be swayed to emit less emissions overall.
The dual goals of the CDM are to promote sustainable development and to allow industrialised countries to earn Certified Emissions Credits (CERs) from their investments in emissions-reducing projects in developing countries. Once verified, CERs can be sold in the international carbon markets to buyers who are unable to meet their pollution targets by other means. This helps to fund the reduction of GHG emissions, while also allowing actors to meet their mandated targets under the Kyoto Protocol or other cap and trade regulatory regimes.
The Use of Markets
The use of markets as a means to address environmental problems is not a new idea. Some economists have long encouraged the use of market-based policy instruments to address environmental problems because they are seen as a fast and efficient policy approach that is capable of transcending national boundaries effectively. However, markets have often been the cause of environmental degradation. Despite this, policy mechanisms like the CDM and the emerging network of regional and international carbon markets, which serve to protect the environment through market-based principles, are increasingly being advocated.3
In reality, however, little is actually understood about how such markets affect the ability of developing economies to address environmental problems. As the CDM has run its course, responses to the policy have been extremely varied. Some countries, like China, embraced the mechanisms, while others like South Africa or the United Arab Emirates, barely participated in it. With the growing importance of these states, a better understanding of how to design market-based policies with them in mind will be required if future efforts across a range of issues are to be meaningful and effective. How, then, can we best account for the variations we find among the emerging economies?
Since emerging markets differ dramatically on a number of factors, examining national variations linked to the type of capitalism helps explain why the CDM has been more successful in some countries than in others. For example, liberal market economies (like those found in Malaysia and Mexico) were expected to respond better to market incentives than other types of capitalism, but their performance fell below expectations. In contrast, the economic institutions related to coordinated types of capitalism (like those found in China and Brazil) led to greater CDM market participation in these states. The obvious implication is that the current climate change regime may be shortsighted. If specific types of capitalism require differing forms of motivation to bring about the desired policy outcome, then current efforts to address climate change may need to adapt.
While it was expected that the forms of capitalism that were more adaptive to markets would excel, the opposite occurred. What explains this? In the research on comparative capitalism, it was Peter Hall and David Soskice who first pointed out how the diversity of economic institutions, and hence the diversity of capitalist societies, leads to unique forms of capitalism.4 It is therefore logical to take into account the structure formed by these institutional arrangements and suggest that it is this structure that defines the behavior of each type of capitalism it produces.
Types of Capitalism
Although the debate about the types of capitalism and what defines them is still unresolved, there are at least two main ideal types: Liberal Market Economies (LMEs) and Coordinated Market Economies (CMEs). On one end of the scale are the LMEs. The LME type is focused on a short-term time horizon due to the central feature of finance in this model. Here, investment is generally sourced from stock markets, which require the quick movement of capital in order to incentivise stockholders and their desire for financial returns. Since corporate governance in LMEs is dictated by stockholders, who drive the market, they require unregulated and flexible labour markets that allow labour to quickly move in and out of projects currently being financed. This necessitates a work force that is broadly educated and can move between industries.
Because the LMEs are organised in this manner, they are highly innovative, efficient and flexible. Together, these complementary institutions work to assure the highest returns to capital holders, thus incentivising further funding, maximising employment levels, and thereby compensating for the lack of long term employment benefits that come from more regulated forms of labour markets. In sum, LMEs are organised by markets, and shareholders’ concerns drive firm decision-making.
On the opposite end of the scale are the CMEs. In these states, firms tend to have a much longer time horizon and this appears to play an important role in the success of CDM market formation. In contrast to LMEs, CMEs have a greater reliance on banks and debt finance as well as more stable institutional shareholdings that give them greater immunity to short-term stock market fluctuations and demands. Since financing is less likely to be sourced through markets, this reduces the drive for short-term profits. Due to the longer time horizon for firms in CMEs, there is an incentive to provide on the job training and apprenticeships for employees who, like artisans, are likely to remain in their jobs for years to come. And since so much is invested into employees, there is an incentive to take care of them through health and unemployment benefits. As a result, complementary labour markets in CMEs are highly regulated, but inflexible.
Since banks, institutional investors, employees, and other stakeholders are involved in the decision-making process in CMEs, corporate governance is also a coordinated affair. Consequently, firms in CMEs must be willing and able to develop strategies that appeal to this broad range of stakeholders. And because CME projects are less profit driven in the short term, this enables them to internalise externalities, such as environmental harm, into the production process. The ability to account for these additional costs over a longer time horizon enables firms to adapt gradually and further lowers the costs.
Understanding how the various modes of production function is instructive for illustrating how varying types of capitalism have systematic effects on environmental outcomes. In the case of CDM participation, the economic institutions related to CMEs led to greater success because the firms in these states must appeal to a broader range of stakeholders, making them more susceptible to perceptions of image or reputation. As a result, firms in CMEs will tend to factor in stakeholder values into their business plans early on and these norms drive firms to more effectively address environmental concerns.
In contrast, LMEs are more likely to externalise social concerns for the environment because they are held hostage by their need to signal to investors through short-term profits and dividends. Subsequently, firms in LMEs tend to factor in shareholders’ materialist values into the production process and these norms also drive behavior in these states. Since firms are ultimately responsible for the majority of environmental damage, policies that account for the capitalist setting in which these firm operate may prove to be fruitful. This is not only relevant for the design and implementation of climate policy, but for other pressing policy issues that are increasingly being addressed with the use of market mechanisms.
About the Author
Tabitha Benney is an Assistant Professor in the Department of Political Science and Affiliated Faculty at the Center for Global Change and Sustainability at the University of Utah. Her work has been published in The Review of International Political Economy, Energy Policy and Wiley Interdisciplinary Reviews: Climate Change. Her new book entitled, Making Environmental Markets Work: The Varieties of Capitalism in Emerging Economies is currently forthcoming.
1. den Elzen, Michel, Jos Olivier, Niklas Höhne, and Greet Janssens-Maenhout. (2013). “Countries’ contributions to climate change: effect of accounting for all greenhouse gases, recent trends, basic needs and technological progress”, Climate Change, 121:2 (November), pp. 397-412.
2. OECD. (2000). Designing the Clean Development Mechanism: Operational and Institutional Issues, COM/ENV/EPOC/IEA/SLT. (Paris: Organisation for Economic Co-operation and Development).
3. Keohane, Nathaniel O. and Sheila M. Olmstead. (2007). Markets and the Environment. (Washington, DC: Island Press).
4. Hall, Peter A. and David Soskice. (2001). Varieties of Capitalism: The Institutional Foundations of Comparative Advantage. (Oxford: Oxford University Press).