William Nordhaus and why he won the Nobel Prize in economics

These are excellent Nobel Prize selections, Romer for economic growth and Nordhaus for environmental economics.  The two picks are brought together by the emphasis on wealth, the true nature of wealth, and how nations and societies fare at the macro level.  These are two highly relevant picks.  Think of Romer as having outlined the logic behind how ideas leverage productivity into ongoing spurts of growth, as for instance we have seen in Silicon Valley.  Think of Nordhaus as explaining how economic growth interacts with the value of the environment.  Here is their language:

  • 2018 Sveriges Riksbank Prize in Economic Sciences is awarded jointly to William D Nordhaus “for integrating climate change into long-run macroeconomic analysis” and Paul M Romer “for integrating technological innovations into long-run macroeconomic analysis”.

Both are Americans, and both have highly innovative but also “within the mainstream” approaches.  So this is a macro prize, but not for cycles, rather for growth and long-term economic prospects.  Here is the Prize committee citation, always well done.

Both candidates were considered heavy favorites to win the Prize, sooner or later, and these selections cannot come as a surprise.  Perhaps it is slightly surprising that they won the Prize together, though the basic logic of such a combination makes good sense.  Here are previous MR mentions of Nordhaus, you can see we have been mentioning him for years in connection with the Prize.

Here is the home page of Nordhaus.  Here is Wikipedia.  Here is scholar.google.com.  Here is Joshua Gans on Nordhaus.

Nordhaus is professor at Yale, and most of all he is known for his work on climate change models, and his connection to various concepts of “green accounting.”  To the best of my knowledge, Nordhaus started working on green accounting in 1972, when he published with James Tobin (also a Laureate) “Is Growth Obsolete?“, which raised the key question of sustainability.  Green accounting attempts to outline how environmental degradation can be measured against economic growth.  This endeavor is not so easy, however, as environmental damage can be hard to measure and furthermore gdp is a “flow” and the environment is (often, not always) best thought of as a “stock.”

Nordhaus developed (with co-authors) the Dynamic Integrated Climate-Economy Model, a pioneering effort to develop a general approach to estimating the costs of climate change.  Subsequent efforts, such as the London IPCC group, have built directly on Nordhaus’s work in this area.  The EPA still uses a variant of this model.  The model was based on earlier work by Nordhaus himself in the 1970s, and he refined it over time in a series of books and articles, culminating in several books in the 1990s.  Here is his well-cited piece, with Mendelsohn and Shaw, on how climate change will affect global agriculture.

Nordhaus also was an early advocate of a carbon tax and furthermore note that his brother Bob wrote part of the Clean Air Act, the part that gave the government the right to regulate hitherto-unmentioned pollutants in the future.  The Obama administration, in its later attempts to regulate climate, cited this provision.

I would say that much of Nordhaus’s work has its impact through being “done,” rather than through being “read.”  Few economists have read through this model, which has computer programs and spreadsheets at its core.  But virtually all economists read about the results of such models and have a general sense of how they work.  The most common criticism of such models, by the way, is simply that their results are highly sensitive to the choice of discount rate.

In recent years, Nordhaus has shifted his emphasis to the risks from climate change, for instance in his book The Climate Casino: Risk, Uncertainty, and Economics for a Growing World.  Marty Weitzman offers a good review, as does Krugman.

Assorted pieces of information on Nordhaus:

Nordhaus was briefly Provost at Yale.  He also ended up being co-author on Paul Samuelson’s famous textbook in economics.

He co-authored a recent paper arguing we are not near the economic singularity; in this area his work intersects with Romer’s quite closely.

Here is a good NYT profile of Bill Nordhaus and his brother Bob, an environmental lawyer:

Bill Nordhaus, 72, a Yale economist who is seen as a leading contender for a Nobel Prize, came up with the idea of a carbon tax and effectively invented the economics of climate change. Bob, 77, a prominent Washington energy lawyer, wrote an obscure provision in the Clean Air Act of 1970 that is now the legal basis for a landmark climate change regulation, to be unveiled by the White House next month, that could close hundreds of coal-fired power plants and define President Obama’s environmental legacy.

Bob, Bill’s brother, once said: ““Growing up in New Mexico,” he said, “you’re aware of the very fragile ecosystem.””

Perhaps my personal favorite Nordhaus paper is on the returns to innovation.  Don Boudreaux summarized it well:

In a recent NBER working paper – “Schumpeterian Profits in the American Economy: Theory and Measurement” – Yale economist William Nordhaus estimates that innovators capture a mere 2.2% of the total “surplus” from innovation. (The total surplus of innovation is, roughly speaking, the total value to society of innovation above the cost of producing innovations.) Nordhaus’s data are from the post-WWII period.

The smallness of this figure is astounding. If it is anywhere close to being an accurate estimate, the implication is that “society” pays a paltry $2.20 for every $100 worth of welfare it enjoys from innovating activities.

There again you will see a complete intersection with the ideas of Romer.  Another splendid and still-underrated paper by Nordhaus is on the economics of light.  Nordhaus argues that gdp figures understate the true extent of growth, and shows that the relative price of bringing light to humans has fallen more rapidly than gdp growth figures alone might indicate.  Check out this diagram.  Here is a BBC summary of what Nordhaus did, in other words rates of price inflation have been lower than we thought and thus rates of real gdp growth higher.

Again, you will see Nordhaus and Romer intersecting on this key idea of economic growth.

Last but not least, Nordhaus was a pioneer on the theory of the political business cycle, namely the idea that politicians deliberately manipulate the economy, using monetary and fiscal policy, so as to boost their chances of reelection.  Dare I suggest that this idea might be making a comeback?

Addendum: From Margaret Collins by email: “I’d like to call your attention to Professor Nordhaus’ longstanding association with the International Institute for Applied Systems Analysis (IIASA), the international science and policy research institution located just outside Vienna.  He worked at IIASA shortly after the institute’s creation in 1972, and his work there is closely bound to the issues the Nobel Committee cites in the award  — he was employed for a year in 1974-75, doing pioneering work on climate as part of IIASA’s Energy Program, and producing a working paper entitled “Can We Control Carbon Dioxide?”.  That was perhaps the first economics treatment of of climate change — and Nordhaus dates his work on climate as having begun there.  He has visited IIASA numerous times in the intervening years, and remains a close collaborator, particularly with Nebojsa Nakicenovic, the Institute’s Deputy Director.”

And, from the comments: “Nordhaus also helped pioneer the use of satellite imagery of night time lights as a tool for measuring economic growth, where we’ve played around with some of the publicly available tools to support various analysis.”

Comments

Which Romer, Paul or the other one? And why Nordhouse and not Christina Romer?

It's very confusing, Nordhaus, using the German spelling for 'house' and then there's this guy: "Ted Nordhaus is an American author, environmental policy expert, and the director of research at The Breakthrough Institute. He was listed in Time magazine's Heroes of the Environment (2008)" Is David Romer related to Paul Romer?

Ted is Bill's nephew, son of Bob (who worked on the 1990 amendments to the Clean Air Act).

Climate change! Really! Now that the evidence is overwhelming that it was all a socialist political scam.

Finally, someone speaking truth to power. Al Gore is the godfather of that particular crime family.

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Ted Nordhaus does not believe in the Paris Agreement of the UNFCCC. He believes that USA geoengineering technology, most likely SRM, will eventually solve the problem of climate change. That is the solution of mainstream neoclassic economics.

FWIW, the tweet from @NobelPrize

"Laureate William Nordhaus’ research shows that the most efficient remedy for problems caused by greenhouse gas emissions is a global scheme of carbon taxes uniformly imposed on all countries. The diagram shows CO2 emissions for four climate policies according to his simulations."

https://twitter.com/NobelPrize/status/1049236609420484608?s=19

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Doesn't the nitpicking get tedious? Why not just call it a Nobel prize, like most people do instead of the '2018 Sveriges Riksbank Prize in Economic Sciences.'

Oh wait, that was part of the official announcement. Never mind. https://www.nobelprize.org/

You can't call it an actual Nobel prize, because it was not founded by Alfred Nobel and actually many people from classical fields of sciences criticize the fact that economists receive a prize too. See: https://en.wikipedia.org/wiki/Nobel_Memorial_Prize_in_Economic_Sciences#Controversies_and_criticisms

Alfred is dead either way .

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TC: "The most common criticism of such models, by the way, is simply that their results are highly sensitive to the choice of discount rate." - I was just about to say this is a big unresolved problem with environmental economics. If you pick a discount rate that's too high, nothing that happens in the future will matter today. If you pick a discount rate that's too low (say 0%), nothing that you do today will matter in the future.

An example is the $25 that was paid to the Manhattan Indians; at a discount rate of 0%, them paying it back today is unlikely to buy back Manhattan, whereas $25 discounted by a mere 3.45%/yr, in 250 years, becomes $1T, which arguably can buy back lots of Manhattan. But, again, if you pick a big discount rate, the reverse is true: $100T in damages 300 years from now might be worth a present value of about $1000, nothing to worry about for now.

The discount rate isn't the only problem with an economic model that projects 100 years into the future.

Classic G.I.G.O.

Particularly as reality cares as much about economic models as Helicobacter pylori cares about stress reduction.

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Well, just to play Satan's lawyer, the same is true for short term weather forecasts, due to chaotic effects, though sometimes you can pick an 'envelope' that gives a good approximation of where the path will be.

Bonus trivia: due to increased computer power, today's five day forecast in weather is as good as yesteryear's next day forecast; recently some Silicon Valley nerd sold Monsanto (now Bayer) a farming app that predicts weather for over $1B. I had the very same idea (about two years after this nerd started, but still early) and was talked out of it by a Midwesterner. Idiot. He said farmers would be resistant to this idea, and to be fair, that's what the nerd found out; he had to sell it hard, and initially VC types said the app was only worth $6M before the nerd hit the road, convinced the Midwest, and now he's a billionaire. Non-rival goods. But the initial gains went to my rival!

"though sometimes you can pick an 'envelope' that gives a good approximation of where the path will be."

And economic projection 100 years out is not one of those times.

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BTW: the nerd is featured in the short but sweet book by Michael Lewis, "The Fifth Risk".

Lewis's book is indeed quite good and captures the know-nothingness of the Trump Administration.

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Reading it on Google Books preview .. all the terrible things that are now "normal."

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Um, $25 earning 3.45% for 250 years works out to $120,383. That's probably less than the help swiped from your somnolent relatives.

@BD (Brain Dead?) - go here: https://www.calculator.net/future-value-calculator.html

If in 1692 the Am. Ind sold Manhattan to the Dutch, legend says, for $24, that's 392 yrs ago, at 4.75%/yr it works out to 1,908,058,316.09, or about $2T, so I was not that far off...

BTW, the weather app nerd got all his hard data, from supercomputers, free from the government. His value add was two fold: (1) creating an app (which I could have done hiring a programmer to perfect, I already know how to get the SQL type queries in REST/SOAP web services on any platform) and (2) creating a weather service/ crop insurance forum or service. The hardest part was convincing the farmers that their 'gut instinct' was inferior to the clearly superior weather app, but the farmers reluctantly agreed once the data was shown to them.

Ray,

You wrote,

$25 discounted by a mere 3.45%/yr, in 250 years, becomes $1T,

It doesn't. It becomes $120,383, like Brian said.

You wrote,

If in 1692 the Am. Ind sold Manhattan to the Dutch, legend says, for $24, that's 392 yrs ago, at 4.75%/yr it works out to 1,908,058,316.09, or about $2T, so I was not that far off...

First, it was 326 years ago. Go to www.subtraction.com to confirm this.

Then, the number comes to $89,212,468, not $2T. I can't figure out what you calculated.

Apparently this is how the 1% does math.

Lol!

What’s the saying we can revise? A trillion here and there and pretty soon we’re talking real money.

+1

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@byomtov - using the online calculator, I am right, again, and you are wrong. To quote the immortal TV Heisenberg, "I win". And nobody in the 1% I know, besides me, knows math, nor do they even use computers, or even text messaging (they call you). However Peter Thiel, Marc Andersson and those guys are exceptions to this rule.

Future Value: $1,908,058,316.09
PV (Present Value) $24.00
N (Number of Periods) 392.000
I/Y (Interest Rate) 4.750
PMT (Periodic Deposit) $0.00
Starting Amount $24.00
Total Periodic Deposits $0.00
Future Value $1,908,058,292.09

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Using the calculator you linked, your 3.45% rate, and the actual number of years yields $1,585,190.20.

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This discussion confirms the point that the modelling is extremely sensitive to discount rate. No need for any online calculator to work out simple compound interest. it's just (initial amount) x (1+rate) ^ years.
So Ray's first post mentioned $25 , 3.45%, 250 years. Which does actually work out to $120,382.61 - or just over $100k so Brian was right in his criticism. But then Ray responded with (slightly) changed numbers : $24, 4.75%, 392 yrs. Applying the same high school formula yields $1,908,058,316 - or about $2Tn. What does this prove? That you can always tweak the numbers to support your preconceived convictions.

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" I was just about to say this is a big unresolved problem with environmental economics. If you pick a discount rate that's too high, nothing that happens in the future will matter today. If you pick a discount rate that's too low (say 0%), nothing that you do today will matter in the future."

As a classical capitalist, ie, informed by the 60s, I ask your view of the discount applied to land you own that you lease to a coal company or power plant to store coal ash.

Given coal industries declare bankruptcy to get a government bailout from paying liabilities, what is the discount you apply in letting capitalist coal industries create value from your land?

And what should government do to ensure you don't burden the public with land that is a liability to the public, as the coal industry has done repeatedly?

If capitalism is the best way to create wealth, does owning land used by the coal industry the way to create wealth for your family down through generations?

Are superfund sites the source of capitalist wealth?

The view of the Americas in the era of Adam Smith, John Locke, was of unlimited land to create wealth for for individuals. Land, or improvements of land was the source of wealth. Does the fossil fuel industry improve land creating wealth? Is it the same as those Bible toting Amish who are stewards of their land, striving to make in more productive for generations to come? Are the Amish not capitalists? Is the Bible, or Torah, teaching capitalism in being stewards of the land?

Lol like you even remember the 1960s

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““Growing up in New Mexico,” he said, “you’re aware of the very fragile ecosystem.””

I was just thinking the opposite. When you are young, you think of all the bulldozers and concrete and think you've built something that'll last forever. As you live with it you see the tending everything takes. If you don't maintain something Mother Nature takes it back pretty quickly. There are whole cities buried in the Amazon we are just finding because
Mother Nature didn't care about what humans wanted.

Anasazi populist: "climate change and droughts are fake news!"

Touche

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I found this 1975 article quite interesting: "Can we control carbon dioxide" http://pure.iiasa.ac.at/id/eprint/365/1/WP-75-063.pdf

Nordhaus explains in simple terms what is the relation between CO_2 and global warming.

Then makes a model to quantify the externalities of CO_2 and evaluates alternatives to capture carbon dioxide. Of course, it's an economics article and it is assumed the technology to capture the CO_2 for a long time exists.

40 years into the future the model looks simple, but the merit of coupling hippie geoscientist's ideas and macroeconomic models is there.

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Well deserved. Nordhaus also helped pioneer the use of satellite imagery of night time lights as a tool for measuring economic growth, where we've played around with some of the publicly available tools to support various analysis.

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From the the Prize committee citation.

"If two economies start out with equal GDP per
capita, but one grows at a 4 per cent higher rate, it
will become almost five times richer in 40 years.
A more modest 2 per cent growth advantage
translates into twice as much national income in
40 years"

Maybe they should have said 4 percentage points. But if one country grows 3% a year we would have to say the other grows 7% a year for 40 years. Has any country ever done that?

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I looked at Nordhaus' paper on an economic Singularity that Tyler linked to and saw that his seventh test on wage growth, which he says doesn't show any signs of a coming Singularity, isn't a real test since his timeline from 1960 to 2013 is much too short in general and includes the Great Stagnation years at the end.

Interestingly, this ties in with a graph that Paul Romer has said was the inspiration for him to study economics. It plots the GDP per capita of England/the UK from 1270 to 2015 where growth seems to accelerate from 1840.

Nordhaus shows only recent real wages as:

1960 - 1990 1.8%
1990 - 2000 2.0%
2000 - 2013 1.1%

I would plot productivity growth or GDP per capita growth and begin at 1750 where productivity has been found to be at 0.3% a year and increased to 0.5% a year in the late 1700s.

There is a clear acceleration from 1760 to 2010 in the UK:

1760 to 1790 0.4% estimate from paper
1790 to 1820 0.4% estimate from paper
1820 to 1850 0.4% Maddison
1850 to 1880 1.4%
1880 to 1910 0.6%
1910 to 1940 1.5%
1940 to 1970 1.4%
1970 to 2000 2.3%
--------------------------
2000 to 2007 2.7%
--or--
1760 - 1820 0.4%
1820 - 1880 0.9%
1880 - 1940 1.0%
1940 - 2000 1.8%
2000 - 2007 2.2%

That is a clear acceleration. Now, what to do with the pesky low growth of the Great Recession years....

2000 - 2017 1.1% but still a clear acceleration over the long term.

@Todd K - What are you plotting for the firs series, above the dashed lines, and for the second series, below the dashed lines? GDP per capita or productivity, for the UK? You almost made it into my indexed facts file but it's not clear to me what you are measuring....thanks if you read this.

It's U.K. GDP per capita for both using Angus Maddison except for the estimates, which are from a 15 year old paper written by economic historians at Harvard but don't have the paper now.

The only difference above and below the dashed lines is the time length between points. The long dash should be after "2000 to 2007 2.7".

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Who is helping Tyler understand the papers? He sure can't read them on his own.

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Not to mention the contribution Nordhaus made to forecast evaluation and forecast rationality tests.

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