Hotter Days, Higher Costs: The Economic Mistake Fueling Climate Change

[Average ocean temperatures were much warmer (Image: Asaad Niiazi/AFP) / Wildfires scorched Greece (Pic: Harvey Pocklington/PA)]

In July 2023, Europe recorded its hottest day ever (Welle, 2023). Roads buckled in Rome, wildfires scorched Greece (British Red Cross, 2023), and heat alerts swept from Madrid to Paris. The link between carbon emissions and these extreme high-temperature climate change events is undeniable (NASA, 2024). Burning fossil fuels like coal and oil releases carbon dioxide, a greenhouse gas that traps heat in the atmosphere. This results in rising global temperatures, more frequent floods, severe droughts, and escalating food shortages. As the earth grows hotter, we must ask: why is this happening?

[Historical trend of global annual temperature rise relative to pre-industrial period / Fuel industry creates a huge amount of carbon emissions]

The True Cost of Climate Change

This alarming surge trend in temperatures did not start in 2023; the global mean temperature has been rising since the Second Industrial Revolution. Ironically, those who contribute the least to emissions—the poorest and most vulnerable—are often the ones who suffer the most. Meanwhile, fossil fuel companies, the major contributors, rarely bear the costs of the damage they cause.

This brings us to an economic reality: climate change is not just an environmental issue but also an economic problem. It exemplifies a negative externality (a kind of market failure)—where the cost imposed on society is not reflected in the price of fossil fuels. As a result, the market fails to allocate resources efficiently. When the damage from carbon emissions is ignored, we cannot rely on market mechanisms to resolve the issue. The real problem lies in the fact that polluters don’t pay, while everyone else suffers.

Why Doesn’t the Market Fix Itself?

Usually, the market's invisible hand works to allocate resources efficiently, just as the ocean self-purifies. But why doesn’t the market fix this imbalance? Climate change is often called the biggest market failure in history because several economic barriers hinder market-based solutions. Firstly, the atmosphere is a shared resource—no single entity owns it, making it difficult to assign responsibility for pollution. Secondly, the free-rider problem arises because climate action benefits everyone, leading some countries to delay taking steps, hoping others will act instead. Lastly, many individuals and businesses lack awareness of how their actions, like using fossil fuel-driven vehicles, contribute to climate change. The focus on short-term gains over long-term sustainability further complicates the issue.

What can we do to help the market fix it?

Economists advocate for cost internalization, where polluters pay the full environmental costs of their actions. Carbon taxes, cap-and-trade systems, and green subsidies are examples of policies designed to make fossil fuel consumption reflect its true cost. Sweden’s carbon tax has proven effective in reducing emissions while maintaining economic stability (Sun et al., 2022). Similarly, Norway’s green subsidies for electric vehicles have significantly boosted the transition to clean energy (IEA, 2023). The country has implemented incentive measures such as reducing road taxes and tolls, providing free charging stations, and offering dedicated roads for electric vehicles, leading to a surge in EV sales.

In addition, the EU Emissions Trading System (EU ETS) allows companies to obtain trading permits and establish emission reduction incentive mechanisms. Companies that do not exceed emission standards can sell their remaining quotas in the market, while those that exceed standards are required to purchase additional quotas. According to the European Environment Agency, this trading system has achieved a 47% reduction in emissions between 2005 and 2023 (Appunn and Wettengel, 2024). These policies can help reduce the negative externalities caused by pollution to some extent.

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