Modeling Energy-Real Estate Interactions for Low-Carbon Urbanization

1. Urbanization and low-carbon growth pathways Modeling the interactions between energy and real estate prices Henri WAISMAN, Jean-Charles HOURCADE (waisman@centre-cired.fr) Urban Energy and Carbon Modeling in Rapidly Urbanizing World IIASA - Vienna, 10/11March 2011

2. 20 years of a surprising absence in energy-economy modeling • What was “obvious” in the early nineties • Large competitive advantage of oil-based motor and fuels over substitutes (biofuels, electricity, hydrogen) • Apparent low price elasticity of mobility and energy demand for transportation • Mobility and transportation are driven by other “signals” than energy prices • What should have been done A strong collaboration between energy, transportation and urban economists (Hourcade ,1993) • What happened : A methodological lock-in due to three converging intellectual dynamics: • The ‘Elephant and rabbit stew metaphor’ legitimates to treat the energy sector independently from the rest of the economy (Hogan & Manne 1977) • The TD/BU controversy about the energy efficiency gap focused the debate on technological efficiency • Extrapolating electricity optimization models to the entire energy system  The overwhelming majority of energy-economy models adopt carbon price as the only driver of decarbonizing economies.

3. The Impasse of the « carbon price only » frameworks Together with political vagaries, harsh lobbying and weak economic reasoning, there may be an economic rationale behind the difficulties in making a deal around policy architectures built around a “pure” pricing of carbon • A carbon price at 50$/tCO2 • doubles the cost of cement in India and hurts segments of the steel industry in the EU • …but hardly affects mobility demand (low price-elasticity) • Consequences for cost assessment of climate policies • Underestimated : an often ignored caveat of energy-economy modeling « Most models use a global least costapproachto mitigation portfolios withuniversalemissionstrading, assumingtransparentmarkets, no transaction cost, and thusperfectimplementationof mitigation measuresthroughout the 21st century. » (AR4, WGIII ) • Overestimated:in absence of complementary policies in the transport sector • veryhighcarbonprices are needed to curve down transport emissions (low elasticity of mobilitydemand to energyprices) • otherdeterminants : non-energyprices and non pricesignals (real estateprices, risk-adjusted capital cost, infrastructure policies)

4. Real price time series 1960-2006 (index 1=2000 level) Housing and Energy prices: Two contrasted dynamics 1960 1970 1980 1990 2000 2006 Housing real sales price Housing service real price Gasoline real price

5. Intertwined methodological issues to be solved • Modeling 2nd best economies with • Imperfect foresight • Inertia of capital stocks • Market imperfections (underutilization of production factors) • Representing structural change driving the decoupling between growth and energy • Beyond pure energy efficiency, the fundamentals of the material content of the economy C-T-L (Hourcade 1993): • Consumption styles (preferences) • Technical potentials (resource and technology availability, asymptotes) • Location patterns • Capturing the interplay between energy prices, land prices and the growth engine (productivity, demography, savings) in an opened economy • Endogenizing the urbanization process and location decisions in urban/rural areas

6. IMACLIM, an attempt to model 2nd best economies in a General Equilibriumframework Static Equilibrium (t) under constraints Dynamic sub-modules (reduced forms of BU models) Static Equilibrium (t+1) under updated constraints ... Oil Technical and structural parameters (i-o coefficients, population, productivity) Electricity Transport Industry Economic signals (prices, quantities, Investments) Agricolture Energy Transport • Hybridmatrixes in values, energy and « physical » content (Mtoe, pkm) • Secure the consistency of the engineering based and economic analyses • Explicit accounting of inertias on equipement stocks • Technical asymptotes, basic needs • Solowiangrowthengine in the long run but transitorydisequilibrium • Unemployment, excesscapacities • Investmentsunderimperfectforesight (informed by sectoralmodels) • Trade and capital flowsunderexogenousassumption about debts

7. Macroeconomic assessment of a “carbon price only” policy (w/o international transfers)

8. At the roots of our “bad news” Significant short-term losses: • Inertia in installed capital and imperfect foresight limit the pace of decarbonization, and requires high carbon prices • Increased production costs transmitted to consumers • Inertia in changing households equipment reinforces the loss of purchasing power • Macroeconomic feedbacks (unemployment, lower wages, lower consumption…) Long-term losses: • Inertia of infrastructures, location choices, urban forms • Rebound effect of mobility needs requires very high carbon prices in the second half of the century

9. Stylised facts in the transportation sector • Rebound effect due to energy efficiency improvement, • Demand induction by transportation and urban infrastructures, • Drivers of demand evolve over different time scales: • Location of production, consumption and housing (decades and sometimes one century) • Infrastructures (decades) • Private equipments (few years) • Energy and real estate prices (volatile) Inertia, ‘lock-in’, risks of maladjustments

10. Utility maximization: With Modeling modal choice and mobility demand 4 modes Under two constraints:

11. Utility maximization: With Infrastructure investments and congestion effects 4 Modes Under two constraints: Time per pkm pkm Capacity Infrastructure investments

12. Transport infrastructure and cost of climate policies • Redirection of investmentstowardslow-carbon transport infrastructure • Relocation of production/distribution towardsless transport-dependentprocesses

13. Utility maximization: With Urban organizations and constrained mobility Constrained mobility (commuting) 4 modes Under two constraints:

14. IMACLIM, a tool to investigate the interplaybetween Systems of Cities in Interaction and growth patterns • Disaggregate the national economy into a System of Cities in Interaction • Represent the spatial dynamics among a number of urban agglomerations • Capture the feedbacks on growth patterns 1 Spatial disaggregation into a system of cities in interaction Static Equilibrium t+1 Static Equilibrium t Aggregate Economic variables: Price, Wage, Profit, Production 2 3 Migration of firms and population Re-aggregation of technical coefficients Transport basic needs, productivity, investment costs

15. The system of cities in interaction • Spatial structure of cities • Monocentric and axisymmetrical • Firms are clusteredinto the adimensionnal centre • Spatial distribution of households : tradeoff on housing/commutingcosts • Multi-level interactions • Inter-city trade (iceberg structure) • Monopolisticcompetition & imperfect substitution amongvarieties • Agglomerationeffect on production • Spatial dynamics • Differentiatedattractiveness of cities (investmentprofitability) • Migration of investmentstowards the most attractive cities • Migration of firms and associatedlabor force Households/ Workers Firms x 0 dj

16. Calibration at base year 2001:« Revealed » parameters • Calibration on 20 largest US cities (52% of sectoral GDP) • « Empirical data » : Population, Density, Production, Wage

17. A consistent view of possible urban dynamics

18. Urban densification policy and CO2 emissions • Spatial policy to limiturbansprawl • reduction of constrainedmobility • (20 cities, onlycommuting)

19. Urban densification policy and costs of climate policies • Carbonprice: 380$/tCO2  360$/ tCO2 (-5%) • Average land pricewithinurban areas: +1.5% • Economicactivity : GDP lossesdiscountedat 3%

20. Conclusion • IMACLIM, a methodological tool for consistency checks between expertises • material content of economic growth • transport, infrastructure policies and mitigation • endogenizing urban systems in a global energy-economy model • Quantification of the impact of urbanpolicies on carbonand real estateprices • important complement to carbonpricing for ambitious mitigation objectives • not only for carbon mitigation : political implementation, social dimensions (welfare effects, distributional issues) • On-goingresearch: • real estate markets and scarcity rents • interplay between transport infrastructure, modal choice and the dynamics of • real estate at the local level • linkages between labor productivity and agglomeration effects