The Drum Opinion: The Carbon tax: not a good bargaining chip

What is the point of Julia Gillard's carbon tax?

(To read this article at The Drum Opinion online click here)

If it is just about reducing emissions in Australia, it is a pointless exercise.

The policy objective is a global one – to stabilise and reduce the total worldwide emissions of greenhouse gases.

In 2008, around 30,000 million tonnes of carbon dioxide were emitted due to human activity.

If the carbon tax achieves its intended result, it will reduce emissions by 160 million tonnes – a drop in the ocean compared to the global task.

(The figure of 160 million tonnes is the difference between Australia's expected emissions in 2020 of 690 million tonnes, and the bipartisan target for 2020 of 5 per cent below 2000 emissions, which equates to around 530 million tonnes.)

The only basis on which the carbon tax could make sense is if it were an effective strategy for encouraging global action.

Australia is at a bargaining table - with nearly 200 other parties - at which each party faces conflicting incentives.

On the one hand, each party would benefit from a global reduction in emissions - and the consequent reduction in the risk of dangerous warming.

But on the other hand, each country faces costs in acting to reduce emissions at home.

If a country chooses to incur these costs, it is taking a risk: that, after incurring these costs, it might secure no benefit because other countries do not keep their side of the deal.

This is a well known type of problem in economics and business strategy, and there is a whole body of thinking – game theory – about the right strategies for players to use.

The classic problem in game theory is the 'prisoner's dilemma'.

Two prisoners, suspected of having jointly committed a crime, are being interrogated - separately - by police.

If both stay silent, there is only enough evidence to convict them of a minor crime, for which they will each get six months.

Each is told, however, that if he confesses to the crime and the other prisoner refuses to confess, the one who confesses will go free - and the one who refuses will get five years.

Finally, each is told that if both confess, then they will both get two years.

The strategy which secures the best overall result for the two prisoners is for both to stay silent. In game theory jargon, this strategy is for each to 'cooperate'.

However, each faces a strong incentive to confess - or 'defect' in the jargon.

To see this, consider the incentives facing prisoner A, depending on what prisoner B does.

Prisoner A will say to himself: if prisoner B confesses, my two options are to stay silent and get five years or confess and get two years. The best option in this scenario is to confess.

Prisoner A will then say to himself: if prisoner B stays silent, my two options are to stay silent and get six months, or confess and get off completely. The best option in this scenario is also to confess.

What does this have to do with climate change?

As an individual country considers whether or not to incur the costs of reducing carbon emissions in its own economy, it faces a prisoner's dilemma.

It can cooperate (that is, take action to reduce emissions, and incur the costs of doing so) or defect (that is, fail to take such action).

If all cooperate the best outcome is secured. But if one country cooperates and others defect, the cooperating country will be left worse off.

Game theory offers some clear lessons for countries approaching this bargaining table.

First, it is both pointless and dangerous to unilaterally choose the option which delivers the best joint outcome. You face a substantial risk that other players will defect - in turn leaving you worse off.

This of course is what Julia Gillard is doing, by imposing a tax in Australia regardless of what the rest of the world does.

Secondly, if you are going to cooperate, you need to find a way to strike an enforceable bargain.

A key finding of game theory is that in a 'multi-round' game, you can use your choices to communicate and to enforce such a bargain.

The standard advice is to cooperate in the first round – and keep cooperating in subsequent rounds if the other player does the same.

But if the other player does not cooperate in a given round, the rational course of action is to respond in the next round by defecting yourself. You need to show the other player that if it is not willing to cooperate, nor are you; or put another way, you are not going to go to jail for five years while it goes free.

This logic is consistent with the approach of the Coalition's Direct Action Plan.

Under our plan, Australia will take action to reduce carbon emissions – at significant economic cost, in fact $3.2 billion of on-budget expenditure over four years.

By doing so we will reduce carbon emissions in 2020 to the same target as Labor has adopted - approximately 530 million tonnes.

At that point, we can determine the way forward, as Coalition frontbencher Andrew Robb has recently pointed out: "If there is still no global agreement by 2020 Australia will have remained competitive while reducing emissions by 5 per cent; avoided tens-of-billions-of-tax, yet still be in a good position to assess the way forward from there."

In other words, our policy involves pursuing a rational strategy in a 'multi-round' game - to cooperate if others cooperate, but not to cooperate unilaterally if others are not doing so.

After all, if we get to 2020 and find the rest of the world has not acted then why would it be rational for us to continue to act unilaterally?

Some say we should act regardless of what the rest of the world does. This is the strategy inherent in Julia Gillard's carbon tax.

The insights of game theory suggest it is a poor strategy - and a naïve way to approach the global bargaining table.

Paul Fletcher is a Liberal Member of Parliament.